SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
FOR ANNUAL AND TRANSITION REPORTS PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
(Mark One)
|X| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1998
OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from _________ to _________
Commission File Number 0-23435
Medford Bancorp, Inc.
(Exact name of registrant as specified in its charter)
Massachusetts 04-3384928
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
29 High Street
Medford, Massachusetts 02155
(Address of principal executive offices) (Zip code)
Registrant's telephone number, including area code: (781) 395-7700
------------------------
Securities registered pursuant to Section 12(b) of the Act:
None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $.50 per share
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes |X| No |_|
Indicate by check mark if disclosure of delinquent filers pursuant to item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment of this Form 10-K. |X|
The aggregate market value of the voting stock held by non-affiliates of
the registrant, based on the closing price on March 1, 1999, on the NASDAQ
National Market was $139,131,252. Although directors and executive officers of
the registrant were assumed to be "affiliates" of the registrant for the
purposes of this calculation, this classification is not to be interpreted as an
admission of such status.
As of March 1, 1999, 8,364,330 shares of the registrant's common stock
were issued and outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Medford Bancorp, Inc. Definitive Notice of Annual Meeting
and Proxy Statement for the Annual Meeting of Stockholders to be held on April
26, 1999 are incorporated by reference into Parts I and III of this Form 10-K.
<PAGE>
PART I
ITEM 1. BUSINESS
General
Medford Bancorp Inc., (the "Company") was organized by Medford Savings Bank (the
"Bank") for the purpose of reorganizing the Bank into a holding company
structure. The Company acquired 100% of the outstanding shares of the Bank's
common stock in a 1:1 exchange of the Company's common stock. This
reorganization became effective on November 26, 1997 whereupon the Bank became a
wholly-owned subsidiary of the Company and the Bank's former stockholders became
stockholders of the Company (the "Reorganization").
Established as a Massachusetts savings bank in 1869, the Bank converted from
mutual to stock form on March 18, 1986 and issued 3,680,000 shares of common
stock. The Bank is principally engaged in the business of attracting deposits
from the general public, originating residential and commercial real estate
mortgages, consumer and commercial loans, and investing in securities on a
continuous basis. For a detailed description of the Company's business and
financial information, see Item 7, "Management's Discussion and Analysis of
Financial Condition and Results of Operations," of this report. The Bank is
headquartered in Medford, Massachusetts, which is located approximately seven
miles north of downtown Boston. The Bank principally offers its products and
services through a network of seventeen banking offices located in Medford,
Malden, Arlington, Belmont, Burlington, North Reading, Tewksbury, Waltham, and
Wilmington. The Bank's primary market area includes these communities as well as
other cities and towns in Middlesex County and the surrounding area north of
Boston.
The Bank presently has one wholly-owned subsidiary, Medford Securities
Corporation ("MSC"), which became operational on March 1, 1995. MSC engages
exclusively in the buying, selling, dealing in, and holding of securities.
Supervision and Regulation
General. The Company is a Massachusetts corporation and a bank holding company
subject to regulation and supervision by the Board of Governors of the Federal
Reserve System (the "Federal Reserve Board") pursuant to the Bank Holding
Company Act of 1956, as amended, and files with the Federal Reserve Board an
annual report and such additional reports as the Federal Reserve Board may
require. The Company is also subject to the jurisdiction of the Massachusetts
Commissioner of Banks. As a bank holding company, the Company's activities are
limited to the business of banking and activities closely related or incidental
to banking. The Company may not directly or indirectly acquire the ownership or
control of more than 5 percent of any class of voting shares or substantially
all of the assets of any company that is not engaged in activities closely
related to banking and also generally must provide notice to or obtain approval
of the Federal Reserve Board in connection with any such acquisition.
As a Massachusetts-chartered savings bank, the Bank is subject to comprehensive
regulation and examination by the Federal Deposit Insurance Corporation (the
"FDIC") which insures its deposits to the maximum extent permitted by law, and
by the Commissioner of Banks of the Commonwealth of Massachusetts (the
"Commissioner"). The Bank is also subject to certain requirements established by
the Federal Reserve Board and is a member of the Federal Home Loan Bank of
Boston.
Federal Deposit Insurance Corporation. The FDIC insures the Bank's deposit
accounts to the $100,000 maximum per separately insured account. As a
state-chartered, FDIC-insured nonmember savings bank, the Bank is subject to
regulation, examination, and supervision by the FDIC and to reporting
requirements of the FDIC. The FDIC has adopted requirements setting minimum
standards for capital adequacy. Pursuant to FDIC requirements, the Bank must
maintain a Tier 1 capital to risk-weighted assets ratio of 4.00% and a total
capital to risk-weighted assets ratio of 8.00%. The FDIC also imposes a leverage
capital ratio of at least 3.00% for the most highly rated banks and a leverage
capital ratio between 4.00% and 5.00% for other banks. The Bank exceeded all
applicable requirements at December 31, 1998. Furthermore, under the capital
standards established pursuant to the FDIC Improvement Act of 1991 ("FDICIA"),
the Bank is currently well-capitalized.
Federal Home Loan Bank System. The Federal Home Loan Bank System functions as a
reserve credit source for its member financial institutions and is governed by
the Federal Housing Finance Board ("FHFB"). The Bank is a voluntary member of
the Federal Home Loan Bank of Boston ("FHLBB"). Members of the FHLBB are
required to own capital stock that is directly proportionate to the member's
home mortgage loans and borrowings from the FHLBB outstanding from time to time.
FHLBB advances must be secured by specific types of collateral and may be
obtained only for the purpose of providing funds for residential housing
finance.
1
<PAGE>
Federal Reserve Board Regulations. Regulation D promulgated by the Federal
Reserve Board requires all depository institutions, including the Bank, to
maintain reserves against its transaction accounts (generally, demand deposits,
NOW accounts and certain other types of accounts that permit payments or
transfer to third parties) or non-personal time deposits (generally, money
market deposit accounts or other savings deposits held by corporations or other
depositors that are not natural persons, and certain other types of time
deposits), subject to certain exemptions. Because required reserves must be
maintained in the form of either vault cash, a non-interest bearing account at a
Federal Reserve Bank or a pass-through account as defined by the Federal Reserve
Board, the effect of this reserve requirement is to reduce the amount of the
institution's interest-bearing assets.
Massachusetts Commissioner of Banks. The Bank is also subject to regulation,
examination and supervision by the Commissioner and to the reporting
requirements promulgated by the Commissioner. Massachusetts statutes and
regulations govern, among other things, investment powers, lending powers,
deposit activities, maintenance of surplus and reserve accounts, the
distribution of earnings, the payment of dividends, issuance of capital stock,
branching, acquisitions and mergers and consolidation. Any Massachusetts bank
that does not operate in accordance with the regulations, policies and
directives of the Commissioner may be subject to sanctions for noncompliance.
The Commissioner may, under certain circumstances, suspend or remove officers or
directors who have violated the law, conducted the Bank's business in a manner
which is unsafe, unsound or contrary to the depositor's interest, or been
negligent in the performance of their duties.
In response to a Massachusetts law enacted in 1996, in 1997 the Commissioner
finalized rules that give Massachusetts banks, and their subsidiaries, many
powers equivalent to those of national banks. The Commissioner also has adopted
procedures expediting branching by strongly capitalized banks.
Depositors Insurance Fund. All Massachusetts-chartered savings banks are
required to be members of the Depositors Insurance Fund ("DIF"), a corporation
created by the Commonwealth of Massachusetts for the purpose of insuring savings
bank deposits not covered by federal deposit insurance. To the extent the Bank's
deposit accounts are not insured by federal insurance, such deposits are insured
by the DIF.
Federal Deposit Insurance Corporation Improvement Act of 1991. FDICIA made
extensive changes to the federal banking laws. Among other things, FDICIA
requires federal bank regulatory agencies to take prompt corrective action to
address the problems of, and imposes significant restrictions on,
under-capitalized banks. With certain exceptions, FDICIA prohibits state banks
from making equity investments and engaging, as principals, in activities which
are not permissible for national banks, such as insurance underwriting. FDICIA
required banks to divest any impermissible equity investments by December 19,
1996. FDICIA also amends federal statutes governing extensions of credit to
directors, executive officers and principal shareholders of banks, savings
associations and their holding companies, limits the aggregate amount of
depository institutions' loans to insiders to the amount of the institution's
unimpaired capital and surplus, restricts depository institutions that are not
well-capitalized from accepting brokered deposits without an express waiver from
the FDIC, and imposes certain advance notice requirements before closing a
branch office. Pursuant to the FDICIA, the FDIC has adopted a framework of
risk-based deposit insurance assessments that take into account different
categories and concentrations of bank assets and liabilities. Effective January
1999, the FDIC revised its regulations relating to FDICIA to generally ease the
ability of state nonmember banks and their subsidiaries to engage in certain
activities not permissible for a national bank, such as real estate development.
Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994. Under the
Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994
("Riegle-Neal"), different types of interstate transactions and activities are
permitted. Interstate transactions and activities provided for under the law
include: (i) bank holding company acquisitions of separately held banks in a
state other than a bank holding company's home state; (ii) mergers between banks
with different home states, including consolidations of affiliated banks; (iii)
establishment of interstate branches either de novo or by branch acquisition;
and (iv) affiliate banks acting as agents for one another for certain banking
functions without being considered a "branch". In general, subject to certain
limitations, nationwide interstate acquisitions are now permissible,
irrespective of state law limitations other than limitations related to deposit
concentrations and bank age requirements. Interstate mergers also are
permissible. Affiliated banks may act as agents for one another. Each of the
transactions and activities must be approved by the appropriate federal bank
regulator, with separate and specific criteria established for each category.
In 1996, Massachusetts enacted interstate banking laws in response to
Riegle-Neal. The laws permit, subject to certain deposit and other limitations,
interstate acquisitions, mergers and branching on a reciprocal basis. The new
interstate banking law is likely to make it easier for out-of-state institutions
to attempt to purchase or otherwise acquire or to compete with the Bank in
Massachusetts, and similarly makes it easier for Massachusetts banks to compete
outside the state.
Financial Modernization. Various federal legislative proposals are pending to
"modernize" the nation's financial system. Although the proposals vary, most
generally would allow for some mixing of banking and commerce and generally
would repeal most laws limiting the ability of banks and securities companies to
be affiliated.
2
<PAGE>
Federal Securities Laws. Upon consummation of the Reorganization, the reporting
obligations of the Bank under the Securities Exchange Act of 1934 (the "Exchange
Act"), as administered by the FDIC, were replaced with substantially identical
obligations of the Company under the Exchange Act, as administered by the
Securities and Exchange Commission (the "SEC"). Pursuant to the Exchange Act,
the Company files annual, quarterly, and periodic reports with the SEC. The
Company is also subject to the insider trading requirements of Sections 16(a)
and 16(b) of the Exchange Act, as administered by the SEC. In connection with
the Reorganization, the Bank deregistered the Bank's common stock under the
Exchange Act.
Other Activities
The Bank owns stock in The Savings Bank Life Insurance Company of Massachusetts
("SBLI"). The Bank sells life insurance and tax-deferred annuities and sold over
$1.5 million in SBLI annuities in 1998, making it the top seller of this product
in Massachusetts.
The Bank provides safe deposit services at nine of its branches.
The Bank originates 30-year, fixed-rate, residential 1-4 family loans in
correspondent relationships with third parties such as Plymouth Mortgage Company
and Chase Manhattan Mortgage Corporation, whereby the Bank originates loans in
exchange for an origination fee. The Bank does not retain the servicing rights
for these loans.
Competition
The Company faces substantial competition for loan origination and for the
attraction and retention of deposits. Competition for loan origination arises
primarily from commercial banks, other thrift institutions, credit unions and
mortgage companies. The Company competes for loans on the basis of product
variety and flexibility, competitive interest rates and fees, service quality
and convenience.
Competition for the attraction and retention of deposits arises primarily from
commercial banks, other thrift institutions, and credit unions having a presence
within and around the market area served by the Bank's main office and its
community branch and ATM network. There are approximately 200 of these financial
institutions in the Bank's market area. In addition, the Company competes with
regional and national firms which offer stocks, bonds, mutual funds and other
investment alternatives to the general public. The Company competes on its
ability to satisfy such requirements of savers and investors as product
alternatives, competitive rates, liquidity, service quality, convenience, and
safety against loss of principal and earnings.
Management believes that the Company's emphasis on personal service and
convenience, coupled with active involvement within the communities it serves,
contributes to its ability to compete successfully.
Employees
As of December 31, 1998, the Bank employed 213 full-time staff, including 44
officers, and 86 part-time staff. None of the Bank's employees is represented by
a labor union. The Company has no officers or employees separate from the Bank.
Executive Officers of the Company and Bank
The executive officers of the Company and/or the Bank, their positions with the
Company and/or the Bank and their ages as of February 28, 1999 are as follows:
Name Age Position
Arthur H. Meehan 63 President and Chief Executive Officer of the
Company and the Bank; Chairman of the Board of
Directors of the Company and the Bank
Phillip W. Wong 49 Executive Vice President, Chief Financial
Officer and Treasurer of the Company; Executive
Vice President and Chief Financial Officer of
the Bank
George A. Bargamian 50 Senior Vice President of the Bank (Retail)
3
<PAGE>
Name Age Position
Eric B. Loth 56 Senior Vice President of the Bank (Lending)
William F. Rivers 43 Senior Vice President of the Bank
(Administration)
Arthur H Meehan. Mr. Meehan commenced his employment with the Bank in February
1992. Prior to this date, Mr. Meehan served as Executive Vice President of the
Bank of New England Corporation.
Phillip W. Wong. Mr. Wong commenced his employment with the Bank as Senior Vice
President in December 1992 and was promoted to Executive Vice President in 1997.
Prior to this date, Mr. Wong served as Chief Financial Officer of Guaranty-First
Trust Co. in Waltham, Massachusetts.
George A. Bargamian. Mr. Bargamian was hired by the Bank as Director of
Marketing in 1988, and was promoted to Vice President and Senior Vice President
of the Bank during 1988. Mr. Bargamian formerly served as Assistant Vice
President of Marketing for First Mutual of Boston.
Eric B. Loth. Mr. Loth commenced his employment with the Bank as Senior Vice
President in August 1994. Prior to this date, Mr. Loth served as Vice President
of Lending at Sterling Bank in Waltham, Massachusetts.
William F. Rivers. Mr. Rivers commenced his employment with the Bank in January
1974, served as Assistant Treasurer from 1980-1985, Vice President from
1985-1988, and was promoted to Senior Vice President in 1988.
ITEM 2. PROPERTIES
All of the Bank's branches located in Medford (except for the West Medford
branch), the branch located in Arlington, and the Malden Center, Maplewood and
Oak Grove branches located in Malden, and the Tewksbury branch, located in
Tewksbury, are owned by the Bank. All other branches are leased from unrelated
third parties. The Company also owns a building that houses the Company's
finance department. The Company also owns an office building currently housing
the Company's lending and certain administrative offices. Additional space in
this building is leased to third parties, and the remainder is available for the
Bank's expansion needs. Subject to the foregoing, the Company believes that its
properties are adequate for its present needs.
The Bank has also acquired properties through foreclosure, which are presently
being marketed by local real estate brokers or the Company's lending staff.
ITEM 3. LEGAL PROCEEDINGS
There are no material legal proceedings to which the Company is a party or to
which any of its property is subject, although the Company is a party to
ordinary routine litigation incidental to its business.
4
<PAGE>
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
NONE.
5
<PAGE>
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS
The Company's (and, prior to the Reorganization, the Bank's) common stock is
quoted on the Nasdaq National Market System under the symbol "MDBK." The
following table sets forth cash dividends declared on common stock and the high
and low closing prices for the quarters indicated. All prices set forth below
are based on information provided by the National Association of Securities
Dealers, Inc.
<TABLE>
<CAPTION>
Common Stock Sale Prices (1)
---------------------------- Dividends Declared (1)
High Low Per Share
---- --- ---------
<S> <C> <C> <C>
1998 1st quarter $22 $17 3/4 $0.10
2nd quarter 22 1/8 20 1/4 0.10
3rd quarter 21 1/4 16 1/8 0.10
4th quarter 18 3/4 13 1/2 0.20
1997 1st quarter $14 7/8 $12 1/4 $0.09
2nd quarter 15 1/4 12 3/8 0.09
3rd quarter 18 14 5/8 0.09
4th quarter 21 17 0.18
</TABLE>
At March 1, 1999, according to the Company's transfer agent, the Company had
approximately 1,161 record holders of its common stock. The number of holders of
record does not reflect the number of persons or entities who or which held
their stock in nominee or "street" name through various brokerage firms or other
entities.
The declaration of future dividends to the Company's stockholders is subject to
future operating results, financial conditions, tax and legal considerations and
other factors, such as the Bank's ability to declare and pay dividends to the
Company. As the principal asset of the Company, the Bank currently provides the
only source of payment of dividends by the Company. FDICIA limits the ability of
undercapitalized insured banks to pay dividends. Moreover, under Massachusetts
law, a stock-form savings bank may pay dividends no more frequently than
quarterly only out of its net profits and only to the extent such dividends do
not impair the Bank's capital stock; and the Commissioner's approval may be
required under certain circumstances. Under Federal Reserve Board and FDIC
regulations, the Company and the Bank would be prohibited from declaring
dividends, if among other things, they were not in compliance with applicable
regulatory capital requirements. If there is no surplus, dividends may be paid
out of net profits for the fiscal year in which the dividend is declared and/or
the preceding fiscal year. Funds held by the Company are available for various
corporate uses, including the payment of future dividends.
(1) Common stock sale prices and dividends declared per share have been
restated to reflect the Company's two-for-one stock split declared on July
28, 1998 to shareholders of record on August 17, 1998, paid on September
15, 1998.
6
<PAGE>
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA
<TABLE>
<CAPTION>
At December 31,
-------------------------------------------------------------------
(Dollars in thousands, except per share data) 1998 1997 1996 1995 1994
------------- ------------ ------------ ----------- -----------
<S> <C> <C> <C> <C> <C>
BALANCE SHEET DATA
Total assets $ 1,151,188 $ 1,135,572 $ 1,039,098 $ 955,933 $ 915,055
Investment securities (includes restricted equity securities) 512,648 513,418 424,966 363,599 332,248
Loans, net 580,665 570,844 560,855 529,424 523,125
Deposits 871,702 821,706 792,141 791,851 791,780
Borrowed funds 170,116 205,779 148,464 72,428 42,172
Stockholders' equity 102,267 101,510 92,521 86,076 76,363
Book value per share 11.74 11.18 10.20 9.73 8.69
Stockholders' equity to total assets 8.88% 8.94% 8.90% 9.00% 8.35%
Number of offices 17 16 16 16 15
- -----------------------------------------------------------------------------------------------------------------------------------
<CAPTION>
Years Ended December 31,
--------------------------------------------------------------------
(Dollars in thousands, except per share data) 1998 1997 1996 1995 1994
----------- ----------- ------------ ----------- -----------
<S> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA
Interest and dividend income $ 76,802 $ 75,332 $ 68,711 $ 64,405 $ 55,401
Interest expense 42,613 41,349 36,462 32,724 24,523
----------- ----------- ------------ ----------- -----------
Net interest income 34,189 33,983 32,249 31,681 30,878
----------- ----------- ------------ ----------- -----------
Provision for loan losses 75 125 215 772 583
Other income:
Gain (loss) on investment securities, net 1,670 835 413 96 (65)
All other income 3,088 3,007 2,902 3,050 2,960
----------- ----------- ------------ ----------- -----------
Total other income 4,758 3,842 3,315 3,146 2,895
----------- ----------- ------------ ----------- -----------
Operating expenses 19,074 19,054 18,075 18,169 19,645
----------- ----------- ------------ ----------- -----------
Income before income taxes 19,798 18,646 17,274 15,886 13,545
Provision for income taxes 7,546 7,256 6,845 6,463 5,292
----------- ----------- ------------ ----------- -----------
Net income $ 12,252 $ 11,390 $ 10,429 $ 9,423 $ 8,253
=========== =========== ============ =========== ===========
Basic earnings per share (1) $ 1.38 $ 1.25 $ 1.15 $ 1.07 $ 0.95
=========== =========== ============ =========== ===========
Diluted earnings per share (1) $ 1.31 $ 1.19 $ 1.10 $ 1.01 $ 0.89
=========== =========== ============ =========== ===========
Cash dividends declared per share (1) $ 0.50 $ 0.45 $ 0.42 $ 0.36 $ 0.31
=========== =========== ============ =========== ===========
SELECTED RATIOS
Return on average assets 1.09% 1.05% 1.05% 1.01% 0.95%
Return on average equity 11.99 11.81 11.72 11.52 11.14
Average equity to average assets 9.07 8.91 8.98 8.75 8.53
Weighted average rate spread 2.72 2.84 3.00 3.20 3.50
Net yield on average earning assets 3.16 3.26 3.39 3.54 3.74
Dividend payout ratio - basic earnings per share 36.23 35.86 35.93 33.18 32.80
- -------------------------------------------------------------------------------------------------------------------------------
</TABLE>
(1) All per share amounts have been restated to reflect the Company's
two-for-one stock split declared on July 28, 1998 to shareholders of
record on August 17, 1998, paid on September 15, 1998.
7
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
This Form 10-K contains certain statements that may be considered
forward-looking statements within the meaning of Section 27A of the Securities
Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934,
as amended. You can identify forward-looking statements by the use of the words
"believe," "expect," "anticipate," "intend," "estimate," "assume" and other
similar expressions which predict or indicate future events and trends and which
do not relate to historical matters. The Company's actual results could differ
materially from those projected in the forward-looking statements as a result,
among other factors, of changes in general, national or regional economic
conditions, changes in loan default and charge-off rates, reductions in deposit
levels necessitating increased borrowing to fund loans and investments, changes
in interest rates, changes in laws and regulations, and changes in the
assumptions used in making such forward-looking statements. These
forward-looking statements were based on information, plans and estimates at the
date of this report, and we do not promise to update any forward-looking
statements to reflect changes in underlying assumptions or factors, new
information, future events or other changes.
The following discussion should be read in conjunction with the accompanying
consolidated financial statements and selected consolidated financial data
included within this report. Given that the Company's principal activity
currently is ownership of the Bank, for ease of reference, the term "Company' in
this Item generally will refer to the investments and activities of the Company
and the Bank, except where otherwise noted.
GENERAL
The Company's net income is primarily attributable to its level of net interest
income, which represents the difference between interest and dividend income
earned on earning assets and interest paid on deposits and other borrowed money.
The main components of the Company's earning assets are loans, investment
securities and short-term investments. Interest-bearing deposits include NOW,
savings, money market and term certificates of deposit. The net interest income
performance of the Company is significantly affected by general economic
conditions, by the Company's corporate strategies, its asset/liability
management, tactical programs and by the policies of regulatory authorities.
Sources of non-interest income such as loan servicing fees, gains/losses on
sales of investment securities and other fees derived from various banking
services contribute positively to the Company's results. The principal operating
expenses of the Bank are salaries and employee benefits, occupancy and equipment
expenses, data processing expenses, amortization of intangibles, advertising and
marketing and other general and administrative expenses.
1998 marks the sixth consecutive year that the Company achieved record earnings,
with net income of $12.3 million, an increase of $862,000, or 7.6%, compared to
net income of $11.4 million for 1997. Earnings per share for 1998 were $1.38
($1.31 on a diluted basis) compared with $1.25 ($1.19 on a diluted basis) for
1997, an increase of 13 cents or 10% compared to the previous year.
At December 31, 1998, total assets were $1.15 billion, an increase of 1.4% from
the prior year. Total loans increased 1.7% to $587.5 million at December 31,
1998. The Bank sold $11.0 million of education loans during 1998. Excluding
these loan sales, loan growth would have approximated 3.6%. Investment
securities increased modestly, to total $512.6 million at December 31, 1998
while total deposits increased $50 million, or 6.1%, to $871.7 million, and
borrowed funds decreased 17.3% to $170.1 million. Stockholders' equity totaled
$102.3 million at December 31, 1998, representing a book value of $11.74 per
share, up from $11.18 (after adjustment for the September 15, 1998 two-for-one
stock split) at December 31, 1997. The capital to assets ratio was 8.88% at
December 31, 1998, exceeding all regulatory requirements.
FINANCIAL CONDITION
Investment Portfolio
The investment policy of the Company is structured to provide an adequate level
of liquidity in order to meet anticipated deposit outflows, normal working
capital needs and expansion of the loan portfolio within guidelines approved by
the Board of Directors, while earning market returns. Accordingly, the majority
of investments are in shorter-term government, agency, or high-quality (rated
"A" or better) corporate securities. Investment bonds purchased generally have
maturities or call dates within three years or less. Although the emphasis on
short-term and medium-term investments reduces the overall yield, this strategy
is in accordance with the Company's desire to minimize interest rate risk.
8
<PAGE>
Investment securities were slightly lower than 1997 year-end levels, at $512.6
million at December 31, 1998 versus $513.4 million at December 31, 1997. During
1998, the Company continued to modify the mix of the investment portfolio to
generate higher levels of interest income. The strategy included replacing U.S.
Government and federal agencies as they matured or were sold with
mortgage-backed securities. At December 31, 1996, 53% of the investment
portfolio was in U.S. Government and federal agencies, while mortgage-backed
securities represented 7%. At December 31, 1997, U.S. Government and federal
agencies were reduced to 37% of total investment securities, and mortgage-backed
securities were increased to 24%. At December 31, 1998, U.S. Government and
federal agencies equaled 18% of total investment securities while
mortgage-backed securities were increased to 43%. The mortgage-backed securities
pools added to this portfolio throughout 1997 and 1998 consisted primarily of
fixed-rate, low-coupon, government-backed securities that have limited extension
or contraction risk. Consideration is given to the underlying collateral, the
impact of rising or falling rates on the average life of these securities and
other factors associated with the Bank's investment policies and strategies.
Investments in debt securities that management has the positive intent and
ability to hold to maturity are classified as "held to maturity" and reflected
at amortized cost. All other marketable investment securities are classified as
"available for sale" and reflected on the balance sheet at fair value, with
unrealized gains and losses excluded from earnings and reported, net of tax, in
the "Other Comprehensive Income" section of Stockholders' Equity. As of December
31, 1998, the net unrealized gain on investments classified as "available for
sale" was $5.0 million and the net unrealized gain on investments classified as
"held to maturity" was $286,000.
The Bank also holds limited amounts of equity securities subject to the
investment limitations imposed by FDICIA and the Commissioner.
The following table sets forth certain information concerning the investment
portfolio at carrying value:
At December 31,
------------------------------------
1998 1997 1996
---------- ---------- ----------
(In thousands)
Investment securities:
Debt securities:
U.S. Government and federal agency $ 93,735 $ 190,579 $ 224,519
Mortgage-backed securities 218,197 122,447 27,814
State and municipal -- -- 89
Corporate bonds 190,019 185,859 159,892
Equity securities 10,697 14,533 12,652
---------- ---------- ----------
Total investment securities $ 512,648 $ 513,418 $ 424,966
========== ========== ==========
9
<PAGE>
The following table sets forth the maturity distribution of debt securities
(excluding mortgage-backed securities) at carrying value, with related weighted
average yields:
<TABLE>
<CAPTION>
At December 31, 1998
-----------------------------------------------------------------------------------
Weighted Weighted Weighted
Within Average Over 1 Year Average Over 5 Years Average
1 Year Yield to 5 Years Yield to 10 Years Yield
------------ ----------- ------------- ------------ ------------ -----------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
U.S. Government and
federal agency $ 30,091 5.90% $ 50,935 4.91% $ 12,709 4.91%
Other 36,500 5.64 153,519 5.55 -- --
------------ ------------ ------------
$ 66,591 5.76% $ 204,454 5.39% $ 12,709 4.91%
============ ============ ============
</TABLE>
Loan Portfolio
The Company offers a variety of lending products, including fixed-rate and
adjustable-rate residential mortgages, equity lines of credit, fixed-rate and
adjustable-rate commercial mortgages, construction loans, consumer loans and
commercial business loans. As a portfolio lender, the Company generally retains
all newly originated loans. From time to time, the Company originates and
retains 30-year, fixed-rate residential loans. More frequently, however, the
30-year, fixed-rate residential loan product is generally offered whereby the
Bank originates these loans for correspondent banks and collects origination
fees therefrom. During 1998, the Company originated and retained $4.6 million of
30-year, fixed-rate residential loans and originated $28.3 million for
correspondents.
Real estate and commercial loan originations are initiated by the Bank's
officers and lending personnel from a number of sources including referrals from
realtors, builders, attorneys, and customers. Direct mail to existing and
potential customers is used to solicit other loan services. Advertising media is
also used to promote loans. The Bank employs on-the-road originators and pays
them commissions for loan originations. Applications for residential and
consumer loans are accepted at all of the Bank's locations and are referred to
the main office for processing.
The Company has lending policies in place which are intended to control credit
risk inherent in the origination and retention of loans in portfolio. Among
other considerations, these policies delineate the Bank's geographic market
region, and establish credit procedures and acceptable loan-to-value ratios for
all loans. Additional specific policies are in effect for commercial and
commercial real estate loans.
Total loans increased to $587.5 million at December 31, 1998 compared to $577.6
million at December 31, 1997. The increase in loans was primarily in residential
mortgages and commercial loans, with year-to-year growth of $31.9 million, or
8.2%, and $2.4 million, or 16.2%, respectively. Construction loan commitments
increased to $28.6 million at December 31, 1998, with commercial construction
and residential construction loan commitments totaling $24.8 million and $3.8
million, respectively, from $22.0 million at December 31, 1997. Actual
outstanding construction funds advanced were $13.1 million and $11.3 million at
December 31, 1998 and 1997, respectively. By contrast, commercial real estate
loans declined nearly $14.5 million, or 11.7%, reflecting aggressive pricing by
competitors within our marketplace. In addition, the Bank sold $11.0 million of
education loans thereby exiting this business due to profitability concerns.
Excluding the loan sales, loan growth would have approximated 3.6%. During 1998,
there was substantial activity in the residential 1-4 family loan portfolio,
with $150.3 million of originations, including $15.9 million with rate
modifications as borrowers took advantage of the relatively low interest rate
environment. All other loan categories remained relatively stable from December
31, 1997. The Company expects continued intense competition for loans within its
geographic region. Within this framework, management continues intense marketing
efforts for residential loans and asset-based lending.
10
<PAGE>
The following table shows the composition of the loan portfolio by type of loan:
<TABLE>
<CAPTION>
At December 31,
----------------------------------------------------------------
1998 1997 1996 1995 1994
---------- ----------- ---------- ----------- ----------
(In thousands)
<S> <C> <C> <C> <C> <C>
Commercial loans $ 17,358 $ 14,941 $ 11,014 $ 9,075 $ 10,270
Loans secured by real estate:
Residential * 421,462 389,593 380,627 353,172 350,013
Construction loans, net of unadvanced
funds 13,073 11,278 8,719 8,591 7,577
Commercial 109,561 124,094 123,158 125,771 125,190
Second mortgages 1,111 1,539 1,928 2,175 2,441
Equity lines of credit 20,606 22,146 21,169 20,819 20,080
Consumer loans 3,145 12,931 20,548 16,710 14,396
---------- ----------- ---------- ----------- ----------
586,316 576,522 567,163 536,313 529,967
Add: Net premium on loans acquired 223 270 354 504 648
Net deferred origination costs 1,002 785 569 73 49
Less: Allowance for loan losses (6,876) (6,733) (7,231) (7,466) (7,539)
---------- ----------- ---------- ----------- ----------
Loans, net $ 580,665 $ 570,844 $ 560,855 $ 529,424 $ 523,125
========== =========== ========== =========== ==========
</TABLE>
* Residential first mortgages represent qualified collateral under a blanket
lien securing FHLBB borrowings. See "Borrowings" for a more detailed
explanation of this lien.
The following table presents the maturity distribution of commercial and
construction loans at December 31, 1998:
Maturities
-------------------------------------------------
1 Year Over 1 Year Over
or Less to 5 Years 5 Years Total
--------- ----------- --------- ---------
(In thousands)
Commercial loans $ 10,211 $ 6,009 $ 1,138 $ 17,358
Construction loans 4,309 3,746 5,018 13,073
Generally, construction loans provide for payments of interest only during the
construction period, and then payments of principal and interest throughout the
remaining life of the loans. In all cases, these construction loans have
adjustable interest rates.
Commercial loans with maturities of over one year are subject to interest rate
adjustment or maturity according to the following schedule:
Scheduled Maturity or Rate Adjustment
--------------------------------------
Over 1 Year Over
to 5 Years 5 Years Total
----------- ---------- ----------
(In thousands)
Predetermined rates $ 1,461 $ 48 $ 1,509
Adjustable rates 4,548 1,090 5,638
----------- ---------- ----------
$ 6,009 $ 1,138 $ 7,147
=========== ========== ==========
11
<PAGE>
Non-performing Assets
It is the Bank's policy to discontinue the accrual of interest on loans over 90
days past due. Interest accrual ceases, and all previously accrued but unpaid
interest is reversed, when a loan is placed on non-accrual status. At the option
of management, a loan may be placed on non-accrual status prior to being 90 days
past due if the collection of future interest and principal is, in the opinion
of management, doubtful.
On January 1, 1995, the Bank adopted Statement of Financial Accounting Standards
("SFAS") No. 114, "Accounting by Creditors for Impairment of a Loan." Under this
Statement, a loan is considered impaired when, based on current information and
events, it is probable that a creditor will be unable to collect the scheduled
payments of principal or interest when due according to the contractual terms of
the loan agreement. Upon adoption of SFAS No. 114, troubled debt restructurings
were included in impaired loans. All of the Bank's loans which have been
identified as impaired have been measured by the fair value of existing
collateral. When impaired loans become 90 days or more delinquent, they are
generally maintained on non-accrual status whereby interest income is recognized
only when received. The restatement of previously issued financial statements to
conform with SFAS No. 114 was expressly prohibited. The Bank does not apply SFAS
No. 114 to individual consumer loans which are collectively evaluated for
impairment.
The following table sets forth information with respect to non-accrual loans,
restructured loans and foreclosed real estate at the dates indicated. There were
no loans 90 days or more past due and still accruing at the dates indicated.
<TABLE>
<CAPTION>
At December 31,
----------------------------------------------------------------
1998 1997 1996 1995 1994
---------- ---------- ---------- ---------- ----------
(In thousands)
<S> <C> <C> <C> <C> <C>
Impaired loans accounted for on a non-accrual basis $ 1,766 $ 1,726 $ 2,752 $ 4,239 $ n/a
Other loans accounted for on a non-accrual basis 47 -- 687 82 1,740
Troubled debt restructurings -- -- -- -- 829
Foreclosed real estate 119 48 276 350 1,444
---------- ---------- ---------- ---------- ----------
$ 1,932 $ 1,774 $ 3,715 $ 4,671 $ 4,013
========== ========== ========== ========== ==========
</TABLE>
For non-accrual loans at December 31, 1998, gross interest income of $142,000
would have been recorded during the year had the loans remained current in
accordance with original terms. The amount of interest income on such loans that
was included in net income for the period was $58,000.
Allowance for Loan Losses
The allowance for loan losses is established through a provision for loan losses
charged through the statement of income. Assessing the adequacy of the allowance
for loan losses involves substantial uncertainties and is based on management's
evaluation of the amount required to absorb estimated losses inherent in the
loan portfolio after weighing various factors. Ultimate losses may vary
significantly from current estimates.
Quarterly reviews of the loan portfolio are performed to identify loans for
which specific allowance allocations are considered prudent. Specific
allocations include the results of measuring impaired loans under SFAS No. 114.
General risk allocations are determined by formula whereby the loan portfolio is
stratified by loan type and by risk rating category. Loss factors are then
applied to each strata based on various considerations including historical loss
experience, delinquency trends, current economic conditions, industry standards
and regulatory guidelines. Any remaining unallocated portion is reviewed for
adequacy in relation to the overall loan portfolio and in recognition of
estimates inherent in the calculation methodology.
12
<PAGE>
An analysis of the allowance for loan losses is presented in the following
table:
<TABLE>
<CAPTION>
Years Ended December 31,
----------------------------------------------------------------
1998 1997 1996 1995 1994
---------- --------- ---------- --------- ----------
(In thousands)
<S> <C> <C> <C> <C> <C>
Allowance for loan losses, beginning of year $ 6,733 $ 7,231 $ 7,466 $ 7,539 $ 7,007
---------- --------- ---------- --------- ----------
Loans charged-off --- Residential real estate (24) (38) (64) (66) (267)
--- Commercial real estate -- (720) (656) (884) --
--- Consumer (33) (42) (89) (28) (34)
--- Commercial (108) (31) (21) (100) (8)
Recoveries --- Residential real estate 20 26 7 104 218
--- Commercial real estate 204 147 348 102 35
--- Consumer 9 25 8 10 5
--- Commercial -- 10 17 17 --
---------- --------- ---------- --------- ----------
Net recoveries (charge-offs) 68 (623) (450) (845) (51)
---------- --------- ---------- --------- ----------
Provision for loan losses, charged to operations 75 125 215 772 583
---------- --------- ---------- --------- ----------
Allowance for loan losses, end of year $ 6,876 $ 6,733 $ 7,231 $ 7,466 $ 7,539
========== ========= ========== ========= ==========
Ratio of net charge-offs (recoveries) to average loans (0.01)% 0.11% 0.08% 0.16% 0.01%
========== ========= ========== ========= ==========
</TABLE>
An analysis of the allocation of the allowance for loan losses is presented in
the following table:
<TABLE>
<CAPTION>
At December 31,
---------------------------------------------------------------------------------------------------------
1998 1997 1996 1995 1994
-------------------- ------------------- -------------------- ------------------ -------------------
Percent Percent Percent Percent Percent
of of of of of
Loans Loans Loans Loans Loans
to to to to to
Total Total Total Total Total
Amount Loans Amount Loans Amount Loans Amount Loans Amount Loans
---------- ------- --------- ------- --------- -------- --------- ------- --------- -------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Residential real estate $ 1,683 75.64% $ 1,067 71.73% $ 1,179 71.23% $ 1,036 70.17% $ 2,669 70.29%
Commercial real estate 4,433 18.65 5,220 21.49 5,711 21.68 6,118 23.43 4,553 23.62
Construction 261 2.22 169 1.95 131 1.53 129 1.60 114 1.43
Consumer 42 0.54 48 2.24 44 3.62 47 3.11 49 2.72
Commercial 457 2.95 229 2.59 166 1.94 136 1.69 154 1.94
---------- ------- --------- ------- --------- -------- --------- ------- --------- -------
Total $ 6,876 100.00% $ 6,733 100.00% $ 7,231 100.00% $ 7,466 100.00% $ 7,539 100.00%
========== ======= ========= ======= ========= ======== ========= ======= ========= =======
</TABLE>
While management considers the allowance for loan losses to be adequate at
December 31, 1998, there is no assurance that additional charge-offs and
provisions will not be necessary in 1999. The provision for loan losses during
1999 will depend primarily on market conditions and the Bank's actual
experience.
Loan Concentrations
Other than the focus of the Bank's lending activities to its market area, the
Bank does not have a concentration of loans exceeding 10% of total loans at the
end of 1998.
13
<PAGE>
Deposits
Deposits historically have been the Bank's primary source of funds. The Bank
offers a wide variety of deposit products to attract both short-term and
long-term deposits from individuals, partnerships and corporations, non-profits
and municipalities. Deposit products include regular savings accounts, NOW
accounts, money market deposit accounts, individual retirement accounts, term
certificates, and retail and commercial demand deposit accounts. The Bank also
solicits corporate and municipal jumbo term deposits.
The Bank's Retail Banking Division places emphasis on sales of its products and
quality of service to attract and retain customers. Management measures the
sales performance of platform personnel in terms of cross-sales of additional
products above the primary product which the customer requests. Platform
personnel are evaluated, in part, based on a cross-sell ratio which is the total
number of these additional products sold to a customer divided by the number of
customers. For 1998 this cross-sell ratio was 1.99, meaning that for each
customer "buying" one product, the customer was "sold" an average of
approximately two products per customer.
The Bank utilizes products and services such as its FREEDOM 55(TM) mature market
program targeted to particular market segments to attract depositors interested
in long-term savings and to create multiple account relationships with these
depositors. Management believes that customers attracted to these programs have
an increased sense of loyalty to the Bank, and, accordingly, the funds deposited
into these programs are less volatile than other deposits.
While deposit flows are by nature unpredictable, management controls the Bank's
deposit growth through selective pricing and sales oriented marketing programs.
Despite the $50 million, or 6.1%, deposit growth experienced during 1998, with
the continuing low interest rate environment and with increases in stock market
and mutual fund values, the task of attracting and retaining deposits remains a
significant challenge to the Bank.
To maintain stable deposit rates and manage interest rate risk, the Bank's
strategy has been to attract deposits through selective promotions. To increase
core deposits, the Bank continues to promote its "ComboPlus" account which
combines a statement savings account and checking account into one convenient
account offered at a competitive rate which exceeds the regular statement and
passbook savings account rates. This account type has contributed significantly
to the increase in savings and demand deposits.
Total deposits increased $50.0 million, or 6.1%, to $871.7 million at December
31, 1998 from $821.7 million at December 31, 1997. When compared to the prior
year, demand deposits increased 17.5% while NOW deposits increased 9.3%. Savings
and money market deposits increased 7.9% and term certificates increased 2.8%.
In previous years, the Bank experienced disintermediation from regular savings
deposits and money market deposits to term certificates. In recent years, the
flat yield curve environment has contributed to growth in liquid, shorter term
deposit products.
The following table indicates the balances in various deposit accounts at the
end of each reported period:
At December 31,
--------------------------------------
1998 1997 1996
----------- ----------- ----------
(In thousands)
Demand accounts $ 51,936 $ 44,196 $ 40,124
NOW accounts 64,888 59,368 60,839
Savings and money market accounts 351,047 325,340 315,771
Term certificates 403,831 392,802 375,407
----------- ----------- ----------
$ 871,702 $ 821,706 $ 792,141
=========== =========== ==========
14
<PAGE>
The following table sets forth the average deposits of the Bank with related
average rates paid during each reported period:
<TABLE>
<CAPTION>
1998 1997 1996
--------------------- ---------------------- ---------------------
Average Rate Average Rate Average Rate
Balance Paid Balance Paid Balance Paid
--------- --------- --------- ---------- --------- ---------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Demand accounts $ 41,272 --% $ 35,210 --% $ 30,935 --%
NOW accounts 60,111 0.98 59,485 1.00 61,317 1.10
Savings and money market deposits 337,456 3.02 322,079 2.96 316,498 2.80
Term certificates 393,493 5.39 391,204 5.42 378,680 5.52
</TABLE>
Included in term certificates of deposit are certificates having balances of
$100,000 or more. At December 31, 1998, such term certificates had the following
maturities:
At December 31, 1998
- ------------------------------------------------------------------------
3 Months Over 3 Months Over 6 Months Over
or Less to 6 Months to 12 Months 12 Months Total
- ----------- ------------- --------------- ----------- ----------
(In thousands)
$ 29,539 $ 13,245 $ 17,316 $ 11,303 $ 71,403
Borrowed Funds
The Bank is a voluntary member of the FHLBB. As such, the Bank may borrow up to
its qualified collateral, as defined by the FHLBB.
The Bank has selectively borrowed funds from the FHLBB to fund purchases of
loans or large loan originations in addition to purchases of mortgage-backed
securities. Short-term borrowings typically fund purchases or originations of
one-year adjustable-rate loans or are used to meet the Bank's daily liquidity
needs. Long-term debt typically funds purchases of three-year adjustable-rate
residential mortgage loans or the origination of certain commercial real estate
loans. The Bank also enters into repurchase or reverse repurchase agreements
with a number of authorized brokers as an alternative source of funds.
Securities sold under agreements to repurchase are borrowings that mature within
one year and are secured by U.S. government obligations. Total borrowed funds
declined to $170.1 million at December 31, 1998 from $205.8 million at December
31, 1997, reflecting increased funding from deposits, the Bank's primary source
of funds. During 1998, the Bank also utilized relatively low market interest
rates to fund the increase in the residential loan portfolio and to support
purchases of mortgage-backed securities with long-term FHLBB advances.
15
<PAGE>
The following table presents, by category, the borrowings of the Bank for the
reported periods:
<TABLE>
<CAPTION>
At December 31,
------------------------------------
1998 1997 1996
---------- ---------- ---------
(Dollars in thousands)
<S> <C> <C> <C>
Short-term borrowings:
FHLBB advances $ -- $ -- $ 30,000
Federal Reserve Bank of Boston advances 114 2,059 1,233
Securities sold under agreements to repurchase 38,349 93,611 49,584
---------- ---------- ---------
Total short-term borrowings $ 38,463 $ 95,670 $ 80,817
========== ========== =========
Weighted average rate 4.01% 5.72% 5.82%
Average balance of short-term borrowings during
the year $ 60,215 $ 70,417 $ 49,123
Weighted average rate paid on short-term
borrowings during the year 5.33% 5.53% 5.37%
Maximum amount outstanding at any month-end
during the year $ 82,514 $ 99,593 $ 80,817
Long-term debt:
FHLBB advances $ 131,653 $ 110,109 $ 67,647
========== ========== =========
Weighted average rate 5.74% 6.02% 6.10%
Average balance of long-term debt during the year $ 123,358 $ 98,972 $ 55,276
Weighed average rate paid on long-term
debt during the year 6.02% 6.19% 6.14%
Maximum amount outstanding at any month-end
during the year $ 136,653 $ 115,156 $ 68,647
</TABLE>
Stockholders' Equity
The Bank's capital to assets ratio was 8.88% at December 31, 1998, compared to
8.94% at December 31, 1997. The Bank's capital ratios at December 31, 1998 and
1997 exceeded all regulatory requirements. On September 15, 1998, the Company
issued a 2 for 1 stock split, payable in the form of a stock dividend. Book
value at December 31, 1998 was $11.74 per share, compared with $11.18 per share
(restated for the stock split) at December 31, 1997. (See "Liquidity and Capital
Resources.")
16
<PAGE>
RESULTS OF OPERATIONS
General
In 1998, the Company reported consolidated net income of $12.3 million or $1.38
basic earnings per share, as compared to net income of $11.4 million or $1.25
per share in 1997 and net income of $10.4 million or $1.15 per share in 1996.
Diluted earnings per share were $1.31, $1.19 and $1.10 for 1998, 1997 and 1996,
respectively. Consolidated net income in 1998 increased 7.6% over 1997 and
consolidated net income in 1997 increased 9.2% over 1996. Diluted earnings per
share in 1998 increased 10.1% over 1997 and diluted earnings per share in 1997
increased 8.2% over 1996. The Company's return on assets was 1.09% for 1998, as
compared to 1.05% in 1997 and 1996. The return on equity increased to 11.99% in
1998 from 11.81% in 1997 and 11.72% in 1996.
The increased earnings for 1998 when compared to 1997 reflect a $206,000
increase in net interest income due to higher average earning assets, and an
increase in net gains on the sale of securities and loans amounting to $899,000.
1998 salaries and employee benefits increased $468,000 while all other
categories were relatively flat or down compared to 1997. Included in 1997
expenses were one-time expenses of approximately $200,000 related to the
formation of the holding company, and $260,000 applicable to tax filing matters.
In 1996, the Company incurred $378,000 of one-time expenses concurrent with the
purchase and installation of a new loan and deposit system.
The increase in earnings in 1997 when compared to 1996 reflects an increase in
net interest income, a reduction in the provision for loan losses, and an
increase in net gains on the sales of investment securities and loans. Total
operating expenses increased $979,000 in 1997 when compared to 1996 and included
the $460,000 of one-time expenses described in the previous paragraph. A total
of $1.7 million was invested in 1996 on the installation of a new system that is
represented by hardware and software which was capitalized and is being
depreciated.
Net Interest Income
Net interest income was $34.2 million in 1998; an increase of $206,000 or 0.6%
from $34.0 million in 1997, and an increase of $1.9 million or 6.0% from $32.2
million in 1996. Average earning assets in 1998 increased $40.5 million as
compared to an increase of $32.5 million of increased interest-bearing
liabilities; the difference resulting from higher demand deposits and capital.
As a result, the excess of earning assets over interest-bearing liabilities
increased 8.0% to $107.9 million from the $99.9 million in 1997. The earnings on
this excess flow directly to net interest income.
The downturn and flattening of the yield curve in 1998, along with reductions in
the prime rate, compressed the net interest margin and spread. As a result,
lower yields on earning assets, albeit somewhat offset by lower costs of funds,
reduced the net interest margin in 1998 to 3.16% from 3.26% in 1997 and 3.39% in
1996. The Company's most integral challenge is managing net interest income.
Management continues to focus on minimizing net interest margin compression by
closely monitoring the behavior of the loan portfolio under varying market rate
environments in order to maximize the yield on earning assets. During 1998,
average loan balances represented 53.7% of average earning assets. This compares
with 55.3% in 1997, and 57.2% in 1996. The average investment securities balance
was 46.3% of average earning assets in 1998 as compared to 44.7% in 1997 and
42.8% in 1996. As the percentage of loans to assets decreases and the percentage
of investments to assets increases, the net interest margin declines, as loans
are typically a higher yielding asset than the types of securities in which the
Bank generally invests.
Management also closely monitors funding costs, and utilizes borrowings as an
alternative to deposits when pricing or availability is more advantageous. The
average deposits balance represented 81.2%, and average borrowings represented
18.8%, of total interest bearing liabilities in 1998 as compared to 82.0% and
18.0%, respectively, in 1997, and 87.9% and 12.1%, respectively, in 1996. The
increased reliance on borrowings during 1998 resulted in a higher cost of funds,
thereby reducing the net interest margin.
17
<PAGE>
Interest and Dividend Income
Interest and dividend income totalled $76.8 million for 1998; an increase of
$1.5 million or 2.0% from 1997. Interest and dividend income totalled $75.3
million for 1997; an increase of $6.6 million or 9.6% from 1996. The weighted
average yield on earning assets was 7.09% in 1998, compared to 7.23% in 1997 and
1996.
Interest income on loans decreased 1.0% or $473,000 to $45.7 million in 1998
whereby increases in the average loans outstanding were more than offset by a
reduction in the average yield on loans to 7.87%. Increased residential 1-4
family loan volume contributed $720,000 of additional interest income. The
average yield on residential 1-4 family loans declined to 7.36% when compared
with the 7.50% earned in 1997, the result of lower origination rates and
significant refinancings. Interest income on commercial loans increased $63,000
as a result of greater volume, offset by lower yields.
Commercial real estate loans contributed $454,000 less interest income in 1998
on reduced loans outstanding, the result of the Bank's refusal to meet highly
aggressive pricing on these loans by competitors in its marketplace. Interest
income on consumer loans decreased $802,000, or 53.8%, from the prior year
primarily due to the sale of all education loans in 1997 and 1998.
Interest income on investments was $31.1 million in 1998 compared with $29.1
million in 1997. The $35.6 million increase in the average balance of investment
securities, principally in higher yielding corporate bonds and mortgage-backed
securities contributed $1.9 million of additional interest income. Investing in
higher yielding instruments helped to stabilize the yield on investments at
6.20% in 1998 versus 6.26% in 1997.
Interest income on loans was $46.2 million in 1997 compared with $43.5 million
in 1996, the result of increases in average loans outstanding and yield.
Interest income on residential 1-4 family loans increased $2.2 million in 1997
compared to 1996 levels as loan volume increased. The yield on residential loans
remained stable from year to year at 7.50%. Interest income on commercial real
estate loans increased $97,000 from 1996 levels while the yield was virtually
unchanged. Interest income on consumer loans increased $16,000 in 1997;
primarily as the yield improved 106 basis points to 9.20% in 1997. Interest
income on commercial loans increased $417,000 on a $4.2 million increase in
volume. The overall yield on loans increased from 7.99% in 1996 to 8.02% in
1997.
Interest income on investments was $29.1 million in 1997 compared with $25.3
million in 1996. The increase of $58.6 million in the average balance of
investments in 1997 coupled with an increase in the yield on investments
contributed the additional $3.8 million of interest income. During 1997, the
Bank increased its investment in U.S. government and agency obligations and
corporate bonds with the intent to generate additional interest income. The
weighted average yield on investment securities, including short-term
investments, increased to 6.26% in 1997 from 6.20% in 1996, reflecting the
purchase of additional investment securities and the reinvestment of proceeds
from maturities and sales at higher yields.
Interest Expense
Interest expense was $42.6 million in 1998, up $1.3 million or 3.1% from 1997.
Interest expense was $41.3 million in 1997, an increase of $4.9 million or 13.4%
from 1996. The cost of funds decreased to 4.37% in 1998 from 4.39% in 1997
principally as a result of declining market interest rates. The increase in the
cost of funds in 1997 to 4.39%, as compared to 4.23% in 1996, arose principally
from increased reliance on borrowed funds.
Interest expense on deposits was $32.0 million in 1998, compared with $31.3
million in 1997. Average interest-bearing deposits increased $18.3 million
resulting in an increase in interest expense of $647,000. The Company continues
to focus on increasing certain core deposit accounts. As a result, pricing
strategies were implemented raising certain deposit rates while lowering others.
The weighted average rate paid on savings and money market deposits increased to
3.02% in 1998 compared with 2.96% in 1997. This increased rate coupled with a
$15.4 million increase in the average balance added $658,000 of interest expense
in 1998. The weighted average rate paid on term certificates decreased to 5.39%
in 1998 from 5.42% in 1997. Lower rates on term certificates virtually offset
the increased interest expense resulting from a $2.3 million increase in the
average outstandings. The average balance of NOW deposits increased a modest
$626,000. This increase along with a lowering of the rate paid reduced interest
expense by $8,000. The overall weighted average rate paid on deposits decreased
to 4.04% in 1998 from 4.05% in 1997. The decrease is principally due to greater
volume in the liquid savings and money market deposit products.
18
<PAGE>
Interest expense on borrowed funds was $10.6 million in 1998, compared with
$10.0 million in 1997. Management took advantage of declining interest rates to
extend and increase borrowings. Longer-term FHLBB borrowings were acquired to
fund and manage the interest rate risk resulting from growth in the residential
loan portfolio. The increase in interest expense is the result of a $14.2
million increase in the average balance of borrowings partially offset by a
weighted average rate that was 12 basis points lower than the prior year's rate.
The decline in rate is attributed to lower market rates in 1998, despite the
longer average term of the borrowings. A significant portion of total borrowings
continue to include short-term repurchase agreements of U.S.
Government securities that contribute to the funding of the Bank's investment
portfolio.
Interest expense on deposits was $31.3 million and interest expense on borrowed
funds was $10.0 million in 1997, compared with $30.4 million and $6.0 million,
respectively, in 1996. While interest-bearing deposit levels remained stable in
1997 as compared with 1996, a certain level of disintermediation from lower rate
passbook savings accounts to higher rate core deposits and term certificates
increased the average cost of interest-bearing deposits. In addition, the Bank
leveraged its strong capital position by increasing average borrowed funds to
$169.4 million at an average cost of 5.92% in 1997 from $104.4 million at an
average cost of 5.77% in 1996.
Rate/Volume Analysis
The following table presents, for the periods indicated, changes in interest and
dividend income and changes in interest expense attributable to changes in
interest rates and volumes of interest-bearing assets and liabilities. Changes
attributable to both rate and volume have been allocated proportionally to the
two categories.
<TABLE>
<CAPTION>
1998 Compared to 1997 1997 Compared to 1996
Increase (Decrease) Increase (Decrease)
----------------------------------- ------------------------------------
Volume Rate Total Volume Rate Total
--------- ----------- --------- --------- ----------- ----------
(In thousands)
<S> <C> <C> <C> <C> <C> <C>
INTEREST AND DIVIDEND INCOME
Short-term investments $ 5 $ (5) $ -- $ (234) $ 1 $ (233)
Mortgage-backed investments 6,460 (69) 6,391 2,668 87 2,755
Other investment securities (4,000) (449) (4,449) 1,362 (22) 1,340
Loans 390 (863) (473) 2,623 136 2,759
--------- ----------- --------- --------- ----------- ----------
Total interest and dividend income 2,855 (1,386) 1,469 6,419 202 6,621
--------- ----------- --------- --------- ----------- ----------
INTEREST EXPENSE
NOW deposits (3) (15) (18) (20) (61) (81)
Savings deposits and MMDA 489 179 668 158 530 688
Term certificates 124 (128) (4) 683 (395) 288
Short-term borrowings (548) (137) (685) 1,176 83 1,259
Long-term debt 1,472 (170) 1,302 2,704 29 2,733
--------- ----------- --------- --------- ----------- ----------
Total interest expense 1,534 (271) 1,263 4,701 186 4,887
--------- ----------- --------- --------- ----------- ----------
Net interest income $ 1,321 $ (1,115) $ 206 $ 1,718 $ 16 $ 1,734
========= =========== ========= ========= =========== ==========
</TABLE>
19
<PAGE>
Distribution of Assets and Liabilities; Interest Rates and Interest Differential
The following presents an analysis of average yields earned and rates paid for
the years indicated. Average balances are computed using daily averages except
for average stockholders' equity for which month-end balances are used.
<TABLE>
<CAPTION>
Years Ended December 31, 1998 December 31, 1997 December 31, 1996
- -------------------------------------------------------------- ------------------------------- -----------------------------------
Interest Average Interest Average Interest Average
Average Earned/ Yield/ Average Earned/ Yield/ Average Earned/ Yield/
Balance Paid Rate Balance Paid Rate Balance Paid Rate
---------- -------- -------- ---------- ---------- -------- ---------- --------- ----------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
ASSETS
Earning assets:
Short-term investments $ 3,941 $ 205 5.20% $ 3,852 $ 205 5.32% $ 8,257 $ 438 5.30%
Mortgage-backed
investments 171,581 10,979 6.40 70,635 4,588 6.50 29,506 1,833 6.21
Other investment securities 325,852 19,878 6.10 391,312 24,326 6.22 369,421 22,986 6.22
Loans (a) 581,154 45,740 7.87 576,258 46,213 8.02 543,547 43,454 7.99
- ------------------------------------------------------------------------------------------------------------------------------------
Total earning assets 1,082,528 76,802 7.09 1,042,057 75,332 7.23 950,731 68,711 7.23
Other assets 44,518 -- -- 41,288 -- -- 40,101 -- --
- ------------------------------------------------------------------------------------------------------------------------------------
Total assets $1,127,046 -- -- $1,083,345 -- -- $ 990,832 -- --
====================================================================================================================================
LIABILITIES AND
STOCKHOLDERS' EQUITY
Interest-bearing liabilities:
NOW deposits $ 60,111 $ 587 0.98% $ 59,485 $ 595 1.00% $ 61,317 $ 676 1.10%
Savings deposits and MMDA 337,456 10,198 3.02 322,079 9,540 2.96 316,498 8,851 2.80
Term certificates 393,493 21,190 5.39 391,204 21,193 5.42 378,680 20,906 5.52
Short-term borrowings 60,215 3,210 5.33 70,417 3,896 5.53 49,123 2,637 5.37
Long-term debt 123,358 7,428 6.02 98,972 6,125 6.19 55,276 3,392 6.14
- ------------------------------------------------------------------------------------------------------------------------------------
Total interest-bearing
liabilities 974,633 42,613 4.37 942,157 41,349 4.39 860,894 36,462 4.23
Other liabilities 50,194 -- -- 44,704 -- -- 40,982 -- --
Stockholders' equity 102,219 -- -- 96,484 -- -- 88,956 -- --
- ------------------------------------------------------------------------------------------------------------------------------------
Total liabilities and
stockholders' equity $1,127,046 -- -- $1,083,345 -- -- $ 990,832 -- --
====================================================================================================================================
Net interest income $34,189 $33,983 $ 32,249
Weighted average rate spread (b) 2.72% 2.84% 3.00%
Net yield on average earning
assets (c) 3.16% 3.26% 3.39%
====================================================================================================================================
</TABLE>
(a) Includes non-accrual loans.
(b) Weighted average yield on earning assets less weighted average rate paid
on interest-bearing liabilities.
(c) Net interest income divided by average earning assets.
20
<PAGE>
Provision for loan losses
The provision for loan losses represents a charge against current earnings and
an addition to the allowance for loan losses. The provision is determined by
management on the basis of many factors, including the quality of specific
loans, risk characteristics of the loan portfolio, the level of non-performing
loans, current economic conditions, trends in delinquency and charge-offs, and
collateral values of the underlying security. Ultimate losses may vary from
current estimates.
The Bank recorded a provision of $75,000 for loan losses in 1998. This compares
with a provision of $125,000 for the year ended December 31, 1997 and $215,000
for the year ended December 31, 1996. In 1998, the Bank continued to experience
positive trends in credit quality as indicated by the general decline in
non-performing loans from $3.4 million in 1996 to $1.7 million in 1997 and $1.8
million in 1998, and the decline of gross loans charged-off to $165,000 in 1998
versus $831,000 and $830,000 in 1997 and 1996, respectively. Net loans
charged-off totaled $623,000 and $450,000, respectively, for the years ended
December 31, 1997 and 1996 while in 1998, the Company experienced net loan
recoveries of $68,000.
While management considers the allowance for loan losses to be adequate at
December 31, 1998, there is no assurance that additional charge-offs and
provisions will not be necessary in 1999. The provision for loan losses during
1999 will depend primarily on market conditions and the Bank's actual
experience.
Other income
Total other income amounted to $4.8 million for the year ended December 31,
1998, as compared to $3.8 million for year ended December 31, 1997, and $3.3
million for the year ended December 31, 1996. In 1998, customer service fees
declined $95,000 from 1997 and an additional $185,000 from 1996, in part
reflecting lower revenues on deposit accounts as customers migrate to deposit
products with lower or no service fees. Net gains on the sale of securities were
$1.7 million in 1998, compared with net gains of $835,000 and $413,000 in 1997
and 1996, respectively. Management elects to sell securities when tactical
and/or market opportunities arise to do so and recognize a gain without
impairing the yield or liquidity of the investment portfolio. The net gain on
the sale of loans of $370,000 in 1998 was related to the sale of education
loans.
Operating expenses
Operating expenses were $19.1 million for 1998, up $20,000 or 0.10% over 1997
operating expenses of $19.1 million. Salaries and employee benefits expenses
rose $468,000 or 4.5% when compared to 1997 as a result of annual merit
increases and rising costs of employee benefits of $284,000 and $184,000,
respectively, while all other expense categories were relatively flat or down
from 1997 comparables. 1997 operating expenses were $979,000 or 5.4% greater
when compared to 1996. Included in 1997 professional fees and other general and
administrative operating expenses were $200,000 of one-time expenses incurred in
the formation of a holding company structure, which the Company elected not to
capitalize. Also included in other general and administrative operating expenses
were $260,000 of one-time expenses applicable to tax filing matters. The most
significant increase in operating expenses from 1996 to 1997 was in salary and
benefit costs, which increased 5.5% as a result of regular annual merit
increases. Other increases included occupancy and equipment depreciation
resulting from the Bank's investment of approximately $1.7 million in new
technology. Upgrading to new technology has enabled the Bank to realize savings
in data processing operating expenses. In 1997, the Bank experienced a $99,000
increase in FDIC deposit insurance expense after a significant reduction in
1996. The Bank's expense ratio, which is the ratio of operating expenses to
average assets was 1.69% in 1998 compared with 1.76% in 1997 and 1.82% in 1996.
Management continues to focus on cost containment with the intent to be a low
cost provider of high quality banking products and services. 1996 operating
expenses reflect $378,000 of one-time expenses associated with the conversion to
new operating systems.
Provision for income taxes
The Bank's effective tax rate for the year ended December 31, 1998 was 38.1% as
compared with 38.9% and 39.6% for the years ended December 31, 1997 and 1996,
respectively. The effective tax rates exceeded the statutory federal tax rates
of 34.0% for taxable income up to $10.0 million and 35.0% for taxable income
exceeding $10.0 million principally due to state taxes. The impact of state
taxation has been reduced as a result of investment activity in the Bank's
security corporation.
21
<PAGE>
IMPACT OF INFLATION
The consolidated financial statements and related consolidated financial data
presented herein have been prepared in accordance with generally accepted
accounting principles, which require the measurement of financial position and
results of operations in terms of historical dollars without considering changes
in the relative purchasing power of money over time due to inflation. The
primary effect of inflation on the operations of the Bank is reflected in
increased operating costs. Unlike most industrial companies, virtually all
assets of a financial institution are monetary in nature. As a result, interest
rates have a more significant effect on a financial institution's performance
than the effect of general levels of inflation. Interest rates do not
necessarily move in the same direction or in the same magnitude as the prices of
goods and services.
LIQUIDITY AND CAPITAL RESOURCES
The Bank's principal sources of funds are customer deposits, amortization and
payoff of existing loan principal, and sales or maturities of various investment
securities. The Bank is a voluntary member of the FHLBB and as such, may take
advantage of the FHLBB's borrowing programs to enhance liquidity and leverage
its favorable capital position. The Bank also may draw on lines of credit at the
FHLBB and a large commercial bank or enter into repurchase or reverse repurchase
agreements with authorized brokers. These various sources of liquidity are used
to fund withdrawals, new loans, and investments.
Management seeks to promote deposit growth while controlling the Bank's cost of
funds. Sales-oriented programs to attract new depositors and the cross-selling
of various products to its existing customer base are currently in place.
Management reviews, on an ongoing basis, possible new products, with particular
attention to products and services which will aid in retaining the Bank's base
of lower-costing deposits.
Maturities and sales of investment securities provide significant liquidity to
the Bank. The Bank's policy of purchasing shorter-term debt securities reduces
market risk in the bond portfolio while providing significant cash flow. For the
year ended December 31, 1998, cash flow from maturities of securities was $127.0
million and proceeds from sales of securities totaled $138.0 million, compared
to maturities of securities of $99.2 million and proceeds from sales of
securities of $19.6 million for the year ended December 31, 1997. Principal
payments on mortgage-backed investments during the years ended December 31, 1998
and 1997 totaled $39.1 million and $8.7 million, respectively. Purchases of
securities during 1998 and 1997 totaled $299.1 million and $212.5 million,
respectively. These purchases consisted primarily of short-term debt
instruments. During periods of high interest rates or active mortgage
origination, maturities in the bond portfolio have provided significant
liquidity to the Bank, generally at a lower cost than borrowings.
Amortization and pay-offs of the loan portfolio contribute significant liquidity
to the Bank. Traditionally, amortization and pay-offs are reinvested into loans.
Excess liquidity is invested in short-term debt instruments.
The Bank has also used borrowed funds as a source of liquidity. At December 31,
1998, the Bank's outstanding borrowings from the FHLBB were $131.7 million. The
Bank also utilizes repurchase agreements to fund loan purchases or to leverage
the balance sheet. At December 31, 1998, securities sold under agreements to
repurchase totaled $38.3 million.
Residential and commercial mortgage loan originations for the years ended
December 31, 1998, 1997 and 1996 totaled $159.5 million, $124.2 million and
$96.4 million, respectively. Commitments to originate commercial and residential
real estate mortgages at December 31, 1998 were $13.1 million, excluding
unadvanced construction funds totaling $15.6 million. Unadvanced funds on equity
and commercial lines of credit aggregated $31.6 million at December 31, 1998.
Management believes that adequate liquidity is available to fund loan
commitments utilizing deposits, loan amortization, maturities of securities, or
borrowings.
The Bank's capital position (total stockholders' equity) was $102.3 million, or
8.88% of total assets at December 31, 1998, compared with $101.5 million, or
8.94% of total assets at December 31, 1997. In 1998, the Company utilized the
holding company structure to exercise greater control in managing capital with
the announcement and completion of a 5% stock repurchase plan. A total of
453,468 shares of common stock were repurchased. In addition, the Company
recently announced another stock repurchase plan of up to 5% of outstanding
shares.
The FDIC imposes capital guidelines on the Bank. The guidelines define core or
"tier 1" capital and supplementary or "tier 2" capital and assign weights to
broad categories of assets and certain off-balance sheet items. Ratios of tier 1
and tier 1 plus tier 2 capital to assets are then calculated. Banks must
maintain a tier 1 capital to risk-weighted assets ratio of 4.00% and a total
capital to risk-weighted assets ratio of 8.00%. The consolidated Company and the
Bank's tier 1 risk-based capital ratio, as defined by the FDIC, at December 31,
1998 was 14.7% and 13.6%, respectively, which exceeds both risk-based capital
requirements.
Massachusetts-chartered savings banks insured by the FDIC are required to
maintain minimum leverage capital (tier 1 capital) of 3.0% to 5.0% of total
assets, as adjusted, depending on an individual bank's rating. The Bank's
leverage capital ratio at December 31, 1998, as defined by the FDIC, was 8.5%,
which exceeds the FDIC's requirements.
22
<PAGE>
YEAR 2000 DISCLOSURE
The Year 2000 ("Y2K") issue exists because many computer systems and
applications currently use two-digit date fields to designate a year. As the
century date change occurs, date sensitive systems may recognize the year 2000
as 1900, or not at all. This inability to recognize or properly treat the year
2000 may cause systems to process critical financial and operational information
incorrectly.
A Year 2000 Task Force Committee ("Task Force") represented by members of senior
management was formed in 1997 and is responsible for Y2K compliance. Diligent
efforts, with management's participation, are being conducted by the Company to
address Y2K concerns that affect its operations. The objective of the Company's
Y2K compliance efforts is to enable its internal systems to function normally
with dates prior to, during, or after the year 2000. Additionally, compliance
shall also include out-sourced systems upon which the Company relies for normal
bank operations. The Company will monitor compliance efforts of these vendors to
adequately assess readiness and will seek written assurances from vendors of
critical systems.
To become Y2K compliant, the Company is following the Federal Financial
Institutions Examination Council ("FFIEC") interagency statement of Year 2000
project management issued May 1997. The statement outlines five phases essential
to the Y2K remediation process. The Company's Year 2000 Task Force prepared a
"Year 2000 Action Plan" to define the tasks and monitor its progress in each of
the five phases. The five phases and the Company's status in its efforts in
completing each follows:
1. Awareness Phase - To define the Y2K problem, gain executive level support for
resources, establish a Y2K program team, and develop an overall strategy that
encompasses potentially affected systems. The Year 2000 Task Force was formed in
1997 and has prepared a Year 2000 Action Plan to address the Y2K problem. The
Task Force has established and is maintaining ongoing communications with
employees, management, the Board of Directors and customers on Y2K awareness and
understanding. Progress updates on Y2K compliance are provided to the Board of
Directors and its Committees on a quarterly basis. The Year 2000 committee has
also established a "Customer Awareness Program" to provide updates and assurance
to its customer base on its efforts and progress on Y2K readiness.
Communication, training and awareness is ongoing and will continue throughout
the Y2K remediation process.
2. Assessment Phase - Assess the size and complexity of the problem, identify
all hardware, software, networks, ATM's, and other various processing platforms.
The assessment also includes non-information systems dependent upon embedded
microchips. The Task Force has identified its third party vendor ("Third Party")
of data processing for teller platform, deposit and loan information systems as
its critical computer application. The Task Force and Third Party have
established and are maintaining significant monitoring efforts of Y2K compliance
progress through newsletters, user group interface and direct communication.
Additionally, the Task Force has also assessed and prepared inventories of all
non-critical software and hardware information systems and non-computer related
equipment. The inventories outline actions to be taken, including the need for
repair and/or replacement, need for testing and establishment of contingency
plans as deemed appropriate. Major vendors identified in this assessment phase
have been contacted and requested to provide written correspondence on Y2K
readiness and progress.
3. Renovation Phase - Includes code enhancements, hardware and software
upgrades, system replacements, vendor certifications, and other associated
changes. A Remediation Contingency Plan for the Third Party computer application
was prepared and reviewed during the third quarter of 1998. The Task Force is
continuing its efforts to develop its Third Party Business Resumption
Contingency Plan which outlines how the Company would resume business if
unanticipated problems arise from non-performance of the Third Party. In August
1998, the Third Party's "Year 2000 Outsourcing Solution" was certified by the
Information Technology Association of America ("ITAA"). ITAA*2000 is the
industry's century date change certification program that examines processes and
methods used by companies to perform their Year 2000 software conversions. The
Company and Third Party successfully completed a conversion to the "Year 2000
Outsourcing Solution," the Y2K-ready platform, in early October 1998.
Replacement of in-house software and hardware identified in its assessment phase
was substantially complete at year-end 1998.
4. Validation Phase - Includes testing of incremental changes and upgrades to
hardware and software components. The Task Force has prepared a "Year 2000 Test
Plan" ("Test Plan") document that defines the environment, methodology, human
and financial resources, critical test dates and scheduled testing dates for
Third Party and in-house software and hardware. The Test Plan incorporates the
Third Party's Year 2000 20XX proxy testing plan which outlines the objectives,
scope and schedule for testing of their applications in the first quarter of
1999. In conjunction with the Task Force's Test Plan, the Company has
established an in-house laboratory for testing Y2K readiness of all internal
non-critical software and hardware systems. Plans, test scripts, and actual
testing dates for the internal non-critical software and hardware systems were
completed at year-end 1998.
23
<PAGE>
5. Implementation Phase - In this Phase, systems should be certified as Y2K
compliant and be accepted by the Company. Given the Company's schedule for
renovation and validation, certification of Y2K compliance is anticipated to be
completed by the summer of 1999.
The Company's efforts to become Y2K compliant are being monitored by its federal
banking regulators. Failure to be Y2K compliant could subject the Company to
formal supervisory enforcement actions.
Costs of the Y2K compliance effort during 1998 totaled $20,440 and were expensed
as incurred. Additional costs of $50,000 for 1999 are expected to be expensed as
incurred. Based upon currently available information, this 1999 amount will not
have a material impact on the Company's on-going results of operations. A
substantial part of the Y2K compliance effort will be accomplished by
reallocation of existing personnel and resources. In addition, investments in
new software and hardware planned by the Company in 1998 fall within the
ordinary course of business of maintaining industry technology standards, and
are not considered to be instrumental to the Company within the context of the
Y2K project.
If the efforts initiated by the Task Force are not completed on time, third
parties experience Y2K compliance problems, and customer related Y2K issues
arise, no assurance can be given with respect to the cost or timing of such
efforts or any potential adverse effects on the Company's business, financial
condition or results of operations.
The preceding Y2K discussion contains various forward-looking statements which
represent the Company's beliefs and expectations regarding future events. When
used in the Y2K discussion, the words "believes", "expects", "estimates" and
similar expressions are intended to identify forward-looking statements.
Forward-looking statements include, without limitation, the Company's
expectations as to when it will complete the phases of the Plan; its estimated
costs; and its belief that its internal systems will be Y2K compliant in a
timely manner. All forward-looking statements involve a number of risks and
uncertainties that could cause the actual results to differ materially from the
projected results. Factors that may cause these differences include, but are not
limited to, the availability of qualified personnel and other information
technology resources; the ability to identify and remediate all date sensitive
lines of computer code; and the actions of governmental agencies or other third
parties with respect to Y2K problems.
24
<PAGE>
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Through the Bank's Asset-Liability Management Committee ("ALCO"), which is
comprised of certain senior and middle management personnel, the Bank closely
monitors the level and general mix of interest rate-sensitive assets and
liabilities. The primary objective of the Bank's ALCO program is to manage the
assets and liabilities of the Bank to enhance profitability and capital at
prudent levels of liquidity, interest rate, credit and market risk.
Market risk is the risk of loss from adverse changes in market prices and
interest rates. The Bank's market risk arises primarily from interest rate risk
inherent in lending, investing in marketable securities, deposit taking, and
borrowing activities. To that end, management actively monitors and manages its
interest rate risk exposure. In addition, the Bank is exposed to equity price
risk associated with investing in marketable equity securities, which is not
material.
The Bank's primary objective in managing interest rate risk is to minimize the
adverse impact of changes in interest rates on the Bank's net interest income
and capital, while adjusting the Bank's asset-liability mix to achieve the
maximum yield to cost spread from the mix. However, a sudden and substantial
increase or decrease in interest rates may adversely impact the Bank's earnings
to the extent that interest sensitive assets and liabilities do not change at
the same speed, to the same extent, or on the same basis. It is ALCO's general
policy to closely match the maturity or rate sensitivity of its assets and
liabilities. Strategies implemented to improve the match between interest-rate
sensitive assets and liabilities include, but are not limited to: daily
monitoring of the Bank's changing cash requirements, with particular
concentration on investment in shorter-term securities; a general policy of
originating adjustable-rate and fifteen-year, fixed-rate mortgage loans for the
Bank's own portfolio, monitoring the cost and composition of deposits; and
generally using matched borrowings to fund specified purchases of loan packages
and large loan originations. Occasionally, management may choose to deviate
somewhat from specific matching of maturities of assets and liabilities to take
advantage of an opportunity to enhance yields.
The Bank seeks to manage its liability portfolio in order to effectively plan
and manage growth and maturities of deposits. Plans designed to achieve growth
of different deposit types are reviewed regularly. Programs which are designed
to build multiple relationships with customers and to enhance the Bank's ability
to retain deposits at controlled rates of interest have been implemented.
Management has also adopted a policy of reviewing interest rates on an ongoing
basis on all deposit accounts in order to monitor deposit growth and interest
costs.
In addition to attracting deposits, the Bank has selectively borrowed funds
using advances from the FHLBB and reverse repurchase agreements.
25
<PAGE>
The following table presents, as of December 31, 1998, interest-rate sensitive
assets and liabilities categorized by expected maturity and weighted average
rate. Expected maturities are contractual maturities adjusted for amortization
and prepayments of principal. For adjustable-rate instruments, contractual
maturity is deemed to be the earliest possible interest rate adjustment date.
<TABLE>
<CAPTION>
(Dollars in thousands) Overnight 0-1 yr. 1-2 yrs. 2-3 yrs. 3-4 yrs. 4-5 yrs. 5+ yrs. Total
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Rate-sensitive assets:
Short-term investments $ 4,563 $ -- $ -- $ -- $ -- $ -- $ -- $ 4,563
4.77%
Mortgage-backed investments -- 66,827 43,596 27,672 23,200 14,203 40,435 215,933
6.26% 6.26% 6.26% 6.26% 6.26% 6.26%
Other investment securities -- 72,484 82,120 81,962 21,596 9,962 12,596 280,720
6.28% 6.32% 5.94% 5.95% 5.48% 3.86%
Adjustable-rate mortgages 20,606 150,577 50,610 52,218 37,671 44,693 18,266 374,641
8.12% 8.10% 7.76% 7.74% 7.62% 7.22% 7.10%
Fixed-rate mortgages -- 24,674 20,994 19,561 21,360 19,350 84,678 190,617
7.47% 7.32% 7.37% 6.21% 6.37% 7.10%
All other loans 15,888 2,559 994 544 232 143 110 20,470
8.96% 10.67% 10.61% 10.88% 11.24% 10.63% 10.30%
- ------------------------------------------------------------------------------------------------------------------------------------
Total rate-sensitive assets 41,057 317,121 198,314 181,957 104,059 88,351 156,085 1,086,944
- ------------------------------------------------------------------------------------------------------------------------------------
Rate-sensitive liabilities:
NOW accounts $ 64,888 -- -- -- -- -- -- 64,888
0.71%
Savings accounts 279,191 -- -- -- -- -- -- 279,191
2.90%
Money market accounts 71,856 -- -- -- -- -- -- 71,856
3.59%
Term certificates -- 313,434 53,154 26,029 7,372 3,780 62 403,831
5.23% 5.11% 5.72% 5.99% 5.16% 4.55%
Borrowings -- 88,463 48,253 28,000 -- 5,000 400 170,116
5.03% 5.61% 5.45% 5.87% 5.61%
- ------------------------------------------------------------------------------------------------------------------------------------
Total rate-sensitive liabilities 415,935 401,897 101,407 54,029 7,372 8,780 462 989,882
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
The prepayment experience reflected is based on the Bank's historical
experience. Based on the Bank's experience, partial or full payment prior to
contractual maturity can be expected and is reflected. Given the interest rate
environment at December 31, 1998, management applies the assumption that on
average, 7% of the outstanding loan and mortgage-backed securities balances will
prepay annually. When adjustable-rate loans reprice at the rate adjustment date,
they are generally indexed to the one-, three-, or five-year Treasury rate with
an average spread of 275 basis points, with average period caps of 2.0% and
life-time caps of 6.0%. The table does not include loans which have been placed
on non-accrual status.
Assets and liabilities that are immediately replicable are placed in the
overnight column. These financial instruments do not have a contractual maturity
date. Although NOW, savings and money market deposit accounts are subject to
immediate repricing or withdrawal, based on the Bank's history, management
considers these liabilities to have longer lives and less interest rate
sensitivity than term certificates.
26
<PAGE>
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Page
Independent Auditors' Report..................................................28
Consolidated Balance Sheets at December 31, 1998, 1997 and 1996...............29
Consolidated Statements of Income for the years ended
December 31, 1998, 1997 and 1996..........................................30
Consolidated Statements of Changes in Stockholders' Equity for the years
ended December 31, 1998, 1997 and 1996....................................31
Consolidated Statements of Cash Flows for the years ended
December 31, 1998, 1997 and 1996.......................................32-33
Notes to Consolidated Financial Statements.................................34-60
27
<PAGE>
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders of
Medford Bancorp, Inc.:
We have audited the consolidated balance sheets of Medford Bancorp, Inc. and
subsidiary as of December 31, 1998 and 1997, and the related consolidated
statements of income, changes in stockholders' equity and cash flows for each of
the years in the three-year period ended December 31, 1998. These consolidated
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Medford Bancorp,
Inc. and subsidiary as of December 31, 1998 and 1997, and the results of their
operations and their cash flows for each of the years in the three-year period
ended December 31, 1998 in conformity with generally accepted accounting
principles.
/s/ Wolf & Company, P.C.
Boston, Massachusetts
January 22, 1999
28
<PAGE>
MEDFORD BANCORP, INC.
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
December 31,
---------------------------
1998 1997
------------ ------------
(In thousands)
<S> <C> <C>
ASSETS
Cash and due from banks $ 17,439 $ 13,376
Interest-bearing deposits 4,563 2,804
------------ ------------
Cash and cash equivalents 22,002 16,180
Investment securities available for sale 475,169 402,723
Investment securities held to maturity 29,043 103,823
Restricted equity securities 8,436 6,872
Loans 587,541 577,577
Less allowance for loan losses (6,876) (6,733)
------------ ------------
Loans, net 580,665 570,844
------------ ------------
Banking premises and equipment, net 12,008 10,738
Accrued interest receivable 8,230 9,472
Goodwill and deposit-based intangibles 4,807 5,978
Other assets 10,828 8,942
------------ ------------
Total assets $ 1,151,188 $ 1,135,572
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Deposits $ 871,702 $ 821,706
Short-term borrowings 38,463 95,670
Long-term debt 131,653 110,109
Accrued taxes and expenses 4,078 3,988
Other liabilities 3,025 2,589
------------ ------------
Total liabilities 1,048,921 1,034,062
------------ ------------
Commitments and contingencies
Stockholders' equity:
Serial preferred stock, $.50 par value, 5,000,000 shares
authorized; none issued -- --
Common stock, 15,000,000 shares authorized; $.50 par value,
9,122,596 and 4,541,148 shares issued, respectively 4,561 2,271
Additional paid-in capital 26,389 28,977
Retained earnings 76,770 68,938
Accumulated other comprehensive income 3,058 1,324
Treasury stock, at cost (412,768 shares) (8,511) -
------------ ------------
Total stockholders' equity 102,267 101,510
------------ ------------
Total liabilities and stockholders' equity $ 1,151,188 $ 1,135,572
============ ============
</TABLE>
See accompanying notes to consolidated financial statements.
29
<PAGE>
MEDFORD BANCORP, INC.
CONSOLIDATED STATEMENTS OF INCOME
<TABLE>
<CAPTION>
Years Ended December 31,
----------------------------------------------
1998 1997 1996
------------- ------------ -------------
(Dollars in thousands, except per share data)
<S> <C> <C> <C>
Interest and dividend income:
Interest and fees on loans $ 45,740 $ 46,213 $ 43,454
Interest on debt securities 30,331 28,210 24,167
Dividends on equity securities 526 704 652
Interest on short-term investments 205 205 438
------------- ------------ -------------
Total interest and dividend income 76,802 75,332 68,711
------------- ------------ -------------
Interest expense:
Interest on deposits 31,975 31,328 30,433
Interest on short-term borrowings 3,210 3,896 2,637
Interest on long-term debt 7,428 6,125 3,392
------------- ------------ -------------
Total interest expense 42,613 41,349 36,462
------------- ------------ -------------
Net interest income 34,189 33,983 32,249
Provision for loan losses 75 125 215
------------- ------------ -------------
Net interest income, after provision for loan losses 34,114 33,858 32,034
------------- ------------ -------------
Other income:
Customer service fees 1,878 1,973 2,158
Gain on sales of investment securities, net 1,670 835 413
Gain on sale of loans 370 306 -
Miscellaneous 840 728 744
------------- ------------ -------------
Total other income 4,758 3,842 3,315
------------- ------------ -------------
Operating expenses:
Salaries and employee benefits 10,788 10,320 9,778
Occupancy and equipment 2,296 2,289 1,998
Data processing 1,417 1,416 1,606
Professional fees 525 672 517
Amortization of intangibles 1,171 1,206 1,248
Advertising and marketing 545 614 722
Other general and administrative 2,332 2,537 2,206
------------- ------------ -------------
Total operating expenses 19,074 19,054 18,075
------------- ------------ -------------
Income before income taxes 19,798 18,646 17,274
Provision for income taxes 7,546 7,256 6,845
------------- ------------ -------------
Net income $ 12,252 $ 11,390 $ 10,429
============= ============ =============
Weighted averages shares outstanding:
Basic 8,903,826 9,080,512 9,045,678
============= ============ =============
Diluted 9,377,069 9,540,884 9,447,298
============= ============ =============
Earnings per share:
Basic $ 1.38 $ 1.25 $ 1.15
============= ============ =============
Diluted $ 1.31 $ 1.19 $ 1.10
============= ============ =============
</TABLE>
See accompanying notes to consolidated financial statements.
30
<PAGE>
MEDFORD BANCORP, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
Years Ended December 31, 1998, 1997 and 1996
<TABLE>
<CAPTION>
Accumulated
Common Stock Additional Treasury Stock Other
------------------ Paid-In Retained ----------------- Comprehensive
Shares Dollars Capital Earnings Shares Dollars Income (Loss) Total
--------- ------- ------- -------- -------- ------- ------------- --------
(In thousands, except number of shares)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balance at December 31, 1995 4,423,190 $2,212 $27,642 $54,966 -- $ -- $ 1,256 $ 86,076
--------
Comprehensive income:
Net income -- -- -- 10,429 -- -- -- 10,429
Change in net unrealized gain (loss) on
securities available for sale, net of
reclassification adjustment and tax effects -- -- -- -- -- -- (1,484) (1,484)
--------
Total comprehensive income 8,945
--------
Cash dividends declared ($.42 per share) -- -- -- (3,761) -- -- -- (3,761)
Issuance of common stock under stock
option plan and related income tax benefits 111,458 55 1,206 -- -- -- -- 1,261
--------- ------ ------- ------- -------- ------- ------- --------
Balance at December 31, 1996 4,534,648 2,267 28,848 61,634 -- -- (228) 92,521
--------
Comprehensive income:
Net income -- -- -- 11,390 -- -- -- 11,390
Change in net unrealized gain (loss) on
securities available for sale, net of
reclassification adjustment and tax effects -- -- -- -- -- -- 1,552 1,552
--------
Total comprehensive income 12,942
--------
Cash dividends declared ($.45 per share) -- -- -- (4,086) -- -- -- (4,086)
Issuance of common stock under stock
option plan and related income tax benefits 6,500 4 129 -- -- -- -- 133
--------- ------ ------- ------- -------- ------- ------- --------
Balance at December 31, 1997 4,541,148 2,271 28,977 68,938 -- -- 1,324 101,510
--------
Comprehensive income:
Net income -- -- -- 12,252 -- -- -- 12,252
Change in net unrealized gain (loss) on
securities available for sale, net of
reclassification adjustment and tax effects -- -- -- -- -- -- 1,734 1,734
--------
Total comprehensive income 13,986
--------
Cash dividends declared ($.50 per share) -- -- -- (4,420) -- -- -- (4,420)
Stock split (2 for 1) 4,541,148 2,271 (2,271) -- -- -- -- --
Repurchase of treasury stock -- -- -- -- (453,468) (9,378) -- (9,378)
Issuance of common stock under stock
option plan and related income tax benefits 40,300 19 (317) -- 40,700 867 -- 569
--------- ------ ------- ------- -------- ------- ------- --------
Balance at December 31, 1998 9,122,596 $4,561 $26,389 $76,770 (412,768) $(8,511) $ 3,058 $102,267
========= ====== ======= ======= ======== ======= ======= ========
</TABLE>
See accompanying notes to consolidated financial statements.
31
<PAGE>
MEDFORD BANCORP, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
Years Ended December 31,
-----------------------------------------------
1998 1997 1996
------------- ------------ --------------
(In thousands)
<S> <C> <C> <C>
Cash flows from operating activities:
Net income $ 12,252 $ 11,390 $ 10,429
Adjustments to reconcile net income to net cash
provided by operating activities:
Provisions for loan and foreclosed real estate losses 75 125 265
Depreciation and amortization, net 2,281 2,163 2,205
Net gain on sales of foreclosed real estate (6) (44) (15)
Gain on sales of investment securities, net (1,670) (835) (413)
Gain on sale of loans (370) (306) -
Deferred tax benefit (344) (610) (295)
Increase in accrued interest receivable and other assets (1,366) (291) (2,294)
Increase in accrued taxes and expenses
and other liabilities 629 521 1,576
------------- ------------ --------------
Net cash provided by operating activities 11,481 12,113 11,458
------------- ------------ --------------
Cash flows from investing activities:
Activity in investment securities available for sale:
Maturities 52,180 52,185 38,168
Sales 138,046 19,572 32,602
Purchases (297,537) (211,653) (153,844)
Principal amortization 39,077 8,701 4,746
Activity in investment securities held to maturity:
Maturities 74,803 47,034 49,780
Purchases -- -- (34,232)
Purchases of FHLBB stock (1,564) (876) (654)
Loans originated and purchased, net of amortization and payoffs (20,796) (42,032) (32,163)
Proceeds from sale of loans 11,336 31,900 --
Proceeds from sales of foreclosed real estate 70 662 384
Purchases of banking premises and equipment, net (2,275) (866) (2,018)
------------- ------------ --------------
Net cash used in investing activities (6,660) (95,373) (97,231)
------------- ------------ --------------
</TABLE>
(continued)
See accompanying notes to consolidated financial statements.
32
<PAGE>
MEDFORD BANCORP, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONCLUDED)
<TABLE>
<CAPTION>
Years Ended December 31,
----------------------------------------------
1998 1997 1996
------------- ------------- -------------
(In thousands)
<S> <C> <C> <C>
Cash flows from financing activities:
Net increase in deposits 49,996 29,565 290
Net (decrease) increase in short-term borrowings with maturities
of three months or less (57,207) 44,853 35,536
Proceeds of short-term borrowings with maturities in
excess of three months 10,000 -- 25,000
Repayment of short-term borrowings with maturities in
excess of three months (10,000) (30,000) (20,000)
Proceeds from long-term debt 68,536 67,509 39,000
Repayment of long-term debt (46,992) (25,047) (3,500)
Issuance of common stock 359 34 610
Payments to acquire treasury stock (9,378) -- --
Cash dividends paid (4,313) (3,903) (3,504)
------------- ------------- -------------
Net cash provided by financing activities 1,001 83,011 73,432
------------- ------------- -------------
Net change in cash and cash equivalents 5,822 (249) (12,341)
Cash and cash equivalents at beginning of year 16,180 16,429 28,770
------------- ------------- -------------
Cash and cash equivalents at end of year $ 22,002 $ 16,180 $ 16,429
============= ============= =============
Supplementary information:
Interest paid on deposit accounts $ 31,835 $ 31,263 $ 30,474
Interest paid on borrowed funds 10,681 9,942 5,640
Income taxes paid, net of refunds 7,626 7,455 6,671
</TABLE>
See accompanying notes to consolidated financial statements.
33
<PAGE>
MEDFORD BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Years Ended December 31, 1998, 1997 and 1996
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation and Consolidation
The consolidated financial statements include the accounts of Medford Bancorp,
Inc. (the "Company") and its wholly-owned subsidiary, Medford Savings Bank (the
"Bank"). Pursuant to a Plan of Reorganization and Acquisition (the "Plan") dated
July 29, 1997, the Bank formed the Company as a subsidiary of the Bank and
completed a reorganization on November 26, 1997 whereby the Company became the
Bank's parent company. Each issued and outstanding share of common stock of the
Bank, par value $.50 per share (together with associated preferred stock
purchase rights) was converted into and exchanged for one share of common stock
of the Company, par value $.50 per share (together with associated preferred
stock purchase rights). The Bank's wholly-owned subsidiary, Medford Securities
Corporation engages in the buying, selling, dealing in, or holding of
securities. All significant intercompany balances and transactions have been
eliminated in consolidation.
Use of Estimates
In preparing financial statements in conformity with generally accepted
accounting principles, management is required to make estimates and assumptions
that affect the reported amounts of assets and liabilities as of the date of the
consolidated balance sheet and reported amounts of revenues and expenses during
the reporting period. Actual results could differ from those estimates. A
material estimate that is particularly susceptible to significant change in the
near term relates to the determination of the allowance for losses on loans.
Business and Operating segments
The Company is principally engaged in the business of attracting deposits from
the general public, originating residential and commercial real estate mortgages
and consumer and commercial loans, and investing in securities. The Company is
headquartered in Medford, Massachusetts. It has a network of seventeen banking
offices located in Medford, Malden, Arlington, Belmont, Burlington, North
Reading, Tewksbury, Waltham, and Wilmington. The Company's primary market area
includes these communities as well as other cities and towns in Middlesex County
and the surrounding area north of Boston.
In June 1997, the Financial Accounting Standards Board ("FASB") issued Statement
of Financial Accounting Standards ("SFAS") No. 131, "Disclosures about Segments
of an Enterprise and Related Information," effective for fiscal years beginning
after December 15, 1997. SFAS No. 131 establishes standards for the way that
public business enterprises report information about operating segments in
annual and interim financial statements. It also establishes standards for
related disclosures about products and services, geographic areas and major
customers. Generally, financial information is required to be reported on the
basis that it is used internally for evaluating segment performance and deciding
how to allocate resources to segments. Management evaluates the Company's
performance and allocates resources based on a single segment concept.
Accordingly, there are no separately identified operating segments for which
discrete financial information is available. The Company does not derive
revenues from, or have assets located in, foreign countries, nor does it derive
revenues from any single customer that represents 10% or more of the Company's
total revenues.
Reclassification and Restatements
Prior period common share data has been restated to reflect the Company's 2 for
1 stock split declared on July 28, 1998 to shareholders of record on August 17,
1998, paid on September 15, 1998. In addition, certain amounts have been
reclassified in the 1997 and 1996 consolidated financial statements to conform
to the 1998 presentation.
Cash and Cash Equivalents
Cash and cash equivalents include cash, amounts due from banks and interest
bearing deposits, which mature overnight or on demand.
34
<PAGE>
MEDFORD BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Investment Securities
Investments in debt securities that management has the positive intent and
ability to hold to maturity are classified as "held to maturity" and reflected
at amortized cost. All other marketable investment securities are classified as
"available for sale" and reflected on the balance sheet at fair value, with
unrealized gains and losses excluded from earnings and reported in other
comprehensive income. Purchase premiums and discounts on debt securities are
amortized to earnings by the interest method over the terms of the investments.
Declines in the value of investments that are deemed to be other than temporary
are reflected in earnings when identified. Gains and losses on disposition of
investments are recorded on the trade date and computed by the specific
identification method.
Restricted equity securities include stock of the Federal Home Loan Bank of
Boston and The Savings Bank Life Insurance Company of Massachusetts, both of
which are carried at cost.
Loans
The Company grants mortgage, commercial and consumer loans to customers. A
substantial portion of the loan portfolio is represented by mortgage loans in
the eastern New England area. The ability of the Company's debtors to honor
their obligations is dependent upon the real estate, construction, and general
economic sectors of that region.
Loans, as reported, have been increased by the net premium on loans acquired and
net deferred loan origination costs, and reduced by unadvanced loan funds and
the allowance for loan losses.
Interest on loans is recognized on the interest method and is not accrued on
loans which are ninety days or more past due. Loans may be placed on non-accrual
status prior to becoming ninety days past due if the collection of principal and
interest is, in the opinion of management, doubtful. Loans which are identified
as impaired are generally placed on non-accrual status. Interest income
previously accrued on such loans is reversed against current period earnings.
Interest income on all non-accrual loans is recognized only to the extent of
interest payments received.
Premiums and discounts on loans acquired and net deferred loan origination costs
are amortized as an adjustment of the related loan yields by the interest method
over the contractual lives of the loans.
Allowance for Loan Losses
The allowance for loan losses is established, as losses are estimated to have
occurred, through a provision for loan losses charged to earnings. Loan losses
are charged against the allowance when management believes the collectibility of
the loan balance is unlikely. Subsequent recoveries, if any, are credited to the
allowance.
The allowance for loan losses is evaluated on a regular basis by management and
is based upon management's periodic review of the collectibility of the loans in
light of historical experience, known inherent risks in the nature and volume of
the loan portfolio, levels of non-performing loans, adverse situations that may
affect the borrower's ability to repay, trends in delinquencies and charge-offs,
estimated value of any underlying collateral, and prevailing economic
conditions. This evaluation is inherently subjective as it requires estimates
that are susceptible to significant revision as more information becomes
available. Ultimate losses may vary from current estimates and future additions
to the allowance may be necessary.
35
<PAGE>
MEDFORD BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Allowance for Loan Losses (concluded)
A loan is considered impaired when, based on current information and events, it
is probable that a creditor will be unable to collect the scheduled principal or
interest when due according to the contractual terms of the loan agreement.
Factors considered by management in determining impairment include payment
status, collateral value, and the probability of collecting scheduled principal
and interest payments when due. Loans that experience insignificant payment
delays and payment shortfalls generally are not classified as impaired.
Management determines the significance of payment delays and payment shortfalls
on a case-by-case basis, taking into consideration all of the circumstances
surrounding the loan and the borrower, including the length of the delay, the
reasons for the delay, the borrower's prior payment record, and the amount of
the shortfall in relation to the principal and interest owed. An impaired loan
is required to be measured on a loan-by-loan basis by either the present value
of expected future cash flows discounted at the loan's effective interest rate,
the loan's obtainable market price, or the fair value of the collateral if the
loan is collateral dependent. All of the Company's loans which have been
identified as impaired have been measured by the fair value of existing
collateral.
Larger groups of smaller balance homogeneous loans are collectively evaluated
for impairment. Accordingly, the Company does not separately identify individual
consumer loans for impairment disclosure.
Foreclosed Assets
Assets acquired through, or in lieu of, loan foreclosure are held for sale and
are initially recorded at fair value at the date of foreclosure, establishing a
new cost basis. Subsequent to foreclosure, valuations are periodically performed
by management and the assets are carried at the lower of carrying amount or fair
value less cost to sell. Revenue and expenses from operations and changes in the
valuation allowance are included in net expenses from foreclosed assets.
Banking Premises and Equipment
Land is carried at cost. Buildings and equipment are carried at cost, less
accumulated depreciation computed on the straight-line method over the estimated
useful lives of the assets.
Intangible Assets
Intangible assets pertaining to core deposits acquired are amortized over 15
years on an accelerated basis, based on the expected run-off of the related
deposits. Goodwill is amortized by the straight-line method over periods ranging
from 10 to 15 years.
Transfers of Financial Assets
Transfers of financial assets are accounted for as sales when control over the
assets has been surrendered. Control over transferred assets is deemed to be
surrendered when (1) the assets have been isolated from the Company, (2) the
transferee obtains the right (free of conditions that constrain it from taking
advantage of that right) to pledge or exchange the transferred assets, and (3)
the Company does not maintain effective control over the transferred assets
through an agreement to repurchase them before their maturity.
36
<PAGE>
MEDFORD BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Income Taxes
Deferred tax assets and liabilities are reflected at currently enacted income
tax rates applicable to the period in which the deferred tax assets or
liabilities are expected to be realized or settled. As changes in tax laws or
rates are enacted, deferred tax assets and liabilities are adjusted accordingly
through the provision for income taxes. The Company's base amount of its federal
income tax reserve for loan losses is a permanent difference for which there is
no recognition of a deferred tax liability. However, the loan loss allowance
maintained for financial reporting purposes is a temporary difference with
allowable recognition of a related deferred tax asset, if deemed realizable.
Pension Plan
The compensation cost of an employee's pension benefit is recognized on the net
periodic pension cost method over the employee's approximate service period. The
aggregate cost method is utilized for funding purposes.
In February 1998, FASB issued SFAS No. 132, "Employers' Disclosures about
Pensions and Other Postretirement Benefits," effective for fiscal years
beginning after December 15, 1997. The Statement revises employers' disclosures
about pension and other postretirement benefit plans. It does not change the
measurement or recognition of those plans. The Statement standardizes the
disclosure requirements for pensions and other postretirement benefits to the
extent practical, requires additional information on changes in the benefit
obligations and fair values of plan assets that will facilitate financial
analysis, and eliminates certain disclosures that were previously required by
generally accepted accounting principles. The Company has adopted these
disclosure requirements for the years ended December 31, 1998 and 1997.
Stock Compensation Plans
In accordance with provisions of SFAS No. 123, "Accounting for Stock-Based
Compensation," the Company has elected to continue to measure compensation cost
for its stock compensation plans using the intrinsic value based method of
accounting prescribed by APB Opinion No. 25, "Accounting for Stock Issued to
Employees," whereby compensation cost is the excess, if any, of the quoted
market price of the stock at the grant date (or other measurement date) over the
amount an employee must pay to acquire the stock. Stock options issued under the
Company's stock option plans have no intrinsic value at the grant date, and
under Opinion No. 25 no compensation cost is recognized for them. The Company is
required to make pro forma disclosures of net income and earnings per share and
other disclosures, as if compensation cost had been measured at the grant date
based on the fair value of the award and recognized over the service period,
which is usually the vesting period. The pro forma disclosures include the
effects of all awards granted on or after January 1, 1995.
Advertising Costs
Advertising costs are charged to expense as incurred.
Earnings Per Share
Basic earnings per share represents income available to common stockholders
divided by the weighted-average number of common shares outstanding during the
period. Diluted earnings per share reflects additional common shares that would
have been outstanding if dilutive potential common shares had been issued, as
well as any adjustment to income that would result from the assumed conversion.
Potential common shares that may be issued by the Company relate solely to
outstanding stock options, and are determined using the treasury stock method.
The assumed conversion of outstanding dilutive stock options would increase the
shares outstanding but would not require an adjustment to income as a result of
the conversion.
For the years ended December 31, 1998 and 1997, options applicable to 61,000
shares and 1,000 shares, respectively, were anti-dilutive and excluded from the
diluted earnings per share computations.
37
<PAGE>
MEDFORD BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (concluded)
Comprehensive Income
The Corporation adopted SFAS No. 130, "Reporting Comprehensive Income," as of
January 1, 1998. Accounting principles generally require that recognized
revenue, expenses, gains and losses be included in net income. Although certain
changes in assets and liabilities, such as unrealized gains and losses on
investment securities available for sale, are reported as a separate component
of the equity section of the balance sheet, such items, along with net income,
are components of comprehensive income. The adoption of SFAS No. 130 had no
effect on the Company's net income or stockholders' equity.
The components of other comprehensive income and related tax effects are as
follows:
<TABLE>
<CAPTION>
Years Ended December 31,
---------------------------------------
1998 1997 1996
----------- ----------- -----------
(In thousands)
<S> <C> <C> <C>
Unrealized holding gains on investment securities available for sale $ 4,541 $ 3,414 $ (2,054)
Reclassification adjustment for gains realized in income (1,670) (835) (413)
----------- ----------- -----------
Net unrealized gains (losses) 2,871 2,579 (2,467)
Tax effect (1,137) (1,027) 983
----------- ----------- -----------
Net-of-tax amount $ 1,734 $ 1,552 $ (1,484)
=========== =========== ===========
</TABLE>
Recent Accounting Pronouncements
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities," effective for fiscal years beginning after
June 15, 1999. This Statement establishes accounting and reporting standards for
derivative instruments and hedging activities, including certain derivative
instruments embedded in other contracts, and requires that an entity recognize
all derivatives as assets or liabilities in the balance sheet and measure them
at fair value. If certain conditions are met, an entity may elect to designate a
derivative as follows: (a) a hedge of the exposure to changes in the fair value
of a recognized asset or liability or an unrecognized firm commitment, (b) a
hedge of the exposure to variable cash flows of a forecasted transaction, or (c)
a hedge of the foreign currency exposure of an unrecognized firm commitment, an
available-for-sale security, a foreign currency denominated forecasted
transaction, or a net investment in a foreign operation. The Statement generally
provides for matching the timing of the recognition of the gain or loss on
derivatives designated as hedging instruments with the recognition of the
changes in the fair value of the item being hedged. Depending on the type of
hedge, such recognition will be in either net income or other comprehensive
income. For a derivative not designated as a hedging instrument, changes in fair
value will be recognized in net income in the period of change. Management is
currently evaluating the impact on the consolidated financial statements of
adopting this Statement, but does not anticipate that it will have a material
impact.
38
<PAGE>
MEDFORD BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
2. INVESTMENT SECURITIES
The amortized cost and fair value of investment securities, with gross
unrealized gains and losses at December 31, 1998 and 1997, follows:
<TABLE>
<CAPTION>
Gross Gross
Amortized Unrealized Unrealized Fair
December 31, 1998 Cost Gains Losses Value
- ---------------------------------------------- ------------- ------------ ------------ -------------
(In thousands)
<S> <C> <C> <C> <C>
Securities Available for Sale
- -----------------------------
Debt securities:
Corporate bonds $ 188,087 $ 1,966 $ (33) $ 190,020
Mortgage-backed 215,933 2,392 (129) 218,196
U.S. Government and federal agency 63,591 1,190 (89) 64,692
------------- ------------ ------------ -------------
Total debt securities 467,611 5,548 (251) 472,908
Marketable equity securities 2,532 45 (316) 2,261
------------- ------------ ------------ -------------
Total securities available for sale $ 470,143 $ 5,593 $ (567) $ 475,169
============= ============ ============ =============
Securities Held to Maturity
- ---------------------------
U.S. Government and federal agency $ 29,043 $ 286 $ -- $ 29,329
============= ============ ============ =============
<CAPTION>
Gross Gross
Amortized Unrealized Unrealized Fair
December 31, 1997 Cost Gains Losses Value
- ---------------------------------------------- ------------- ------------ ------------ -------------
(In thousands)
<S> <C> <C> <C> <C>
Securities Available for Sale
- -----------------------------
Debt securities:
Corporate bonds $ 176,093 $ 1,102 $ (107) $ 177,088
Mortgage-backed 121,964 641 (158) 122,447
U.S. Government and federal agency 95,277 482 (232) 95,527
------------- ------------ ------------ -------------
Total debt securities 393,334 2,225 (497) 395,062
Marketable equity securities 7,233 482 (54) 7,661
------------- ------------ ------------ -------------
Total securities available for sale $ 400,567 $ 2,707 $ (551) $ 402,723
============= ============ ============ =============
Securities Held to Maturity
- ---------------------------
U.S. Government and federal agency $ 95,052 $ 326 $ (59) $ 95,319
Corporate bonds 8,771 12 -- 8,783
------------- ------------ ------------ -------------
Total securities held to maturity $ 103,823 $ 338 $ (59) $ 104,102
============= ============ ============ =============
</TABLE>
39
<PAGE>
MEDFORD BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
2. INVESTMENT SECURITIES (concluded)
The amortized cost and fair value of debt securities by contractual maturity at
December 31, 1998 is as follows:
<TABLE>
<CAPTION>
Available for Sale Held to Maturity
--------------------------- ----------------------------
Amortized Fair Amortized Fair
Cost Value Cost Value
------------ ------------ ------------- -------------
(In thousands)
<S> <C> <C> <C> <C>
Within 1 year $ 42,335 $ 42,549 $ 24,043 $ 24,241
After 1 year through 5 years 193,752 196,394 5,000 5,088
After 5 years through 10 years 10,446 10,528 -- --
After 10 years 5,145 5,241 -- --
------------ ------------ ------------- -------------
251,678 254,712 29,043 29,329
Mortgage-backed securities 215,933 218,196 -- --
------------ ------------ ------------- -------------
$ 467,611 $ 472,908 $ 29,043 $ 29,329
============ ============ ============= =============
</TABLE>
At December 31, 1998, U.S. Government obligations with an amortized cost of
$37,567,000, a fair value of $38,187,000 and accrued interest receivable of
$367,000 have been pledged as collateral for securities sold under agreements to
repurchase. In addition, U.S. Government obligations with an amortized cost of
$11,003,000 and a fair value of $11,110,000 have been pledged as collateral for
a line of credit and to secure public funds. (See Note 6.)
For the years ended December 31, 1998, 1997 and 1996, proceeds from the sales of
securities available for sale amounted to $138,046,000, $19,572,000 and
$32,602,000, respectively. Gross realized gains amounted to $1,711,000, $800,000
and $412,000, respectively. Gross realized losses amounted to $52,000 in 1998
and $56,000 in 1996. For the years ended December 31, 1998, 1997 and 1996,
proceeds from the sales of securities held to maturity that were sold within
three months of maturity amounted to $15,003,000, $12,034,000 and $29,973,000,
respectively. These sales have been included in the Statement of Cash Flows as
maturities. Gross realized gains on these sales amounted to $11,000, $35,000 and
$61,000, respectively, and gross realized losses amounted to $4,000 in 1996.
Mortgage-backed investments consist of collateralized mortgage obligations and
participation certificates guaranteed by the Federal National Mortgage
Association, the Federal Home Loan Mortgage Corporation or the Government
National Mortgage Association.
40
<PAGE>
MEDFORD BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
3. LOANS
A summary of the balances of loans follows:
December 31,
--------------------------
1998 1997
----------- ------------
(In thousands)
Mortgage loans on real estate:
Residential 1 - 4 family $ 421,462 $ 389,593
Commercial 109,561 124,094
Construction 28,647 21,989
Second mortgages 1,111 1,539
Equity lines of credit 20,606 22,146
----------- ------------
581,387 559,361
Less: Unadvanced loan funds (15,574) (10,711)
----------- ------------
565,813 548,650
----------- ------------
Other loans:
Commercial 17,358 14,941
Personal 2,076 2,432
Education and other 1,069 10,499
----------- ------------
20,503 27,872
----------- ------------
Add: Net premium on loans acquired 223 270
Net deferred loan origination costs 1,002 785
----------- ------------
Total loans 587,541 577,577
Less allowance for loan losses (6,876) (6,733)
----------- ------------
Loans, net $ 580,665 $ 570,844
=========== ============
41
<PAGE>
MEDFORD BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
3. LOANS (concluded)
An analysis of the allowance for loan losses follows:
Years Ended December 31,
----------------------------------
1998 1997 1996
--------- --------- ----------
(In thousands)
Balance at beginning of year $ 6,733 $ 7,231 $ 7,466
Provision for loan losses 75 125 215
Recoveries 233 208 380
Loans charged-off (165) (831) (830)
--------- --------- ----------
Balance at end of year $ 6,876 $ 6,733 $ 7,231
========= ========= ==========
The following is a summary of the recorded investment in impaired loans:
December 31,
--------------------------
1998 1997
----------- ----------
(In thousands)
Impaired loans with no valuation allowance $ 302 $ 302
Impaired loans with a corresponding
valuation allowance 1,464 1,424
----------- ----------
Total impaired loans $ 1,766 $ 1,726
=========== ==========
Corresponding valuation allowance $ 56 $ 85
=========== ==========
No additional funds are committed to be advanced in connection with impaired
loans.
For the years ended December 31, 1998, 1997 and 1996, the average recorded
investment in impaired loans amounted to $1,749,000, $3,806,000 and $4,751,000,
respectively. Impaired loans are generally placed on non-accrual status. The
Bank recognized interest income on impaired loans, on a cash basis, of $39,000
in 1998, $74,000 in 1997 and $153,000 in 1996 during the periods that they were
impaired.
42
<PAGE>
MEDFORD BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
4. BANKING PREMISES AND EQUIPMENT
A summary of the cost and accumulated depreciation of banking premises and
equipment and their estimated useful lives follows:
December 31,
----------------------
1998 1997
--------- ----------
(In thousands)
Banking Premises:
Land $ 1,957 $ 1,249
Buildings 10,291 9,355
Equipment 6,283 5,652
--------- ----------
18,531 16,256
Less accumulated depreciation (6,523) (5,518)
--------- ----------
$ 12,008 $ 10,738
========= ==========
Depreciation expense for the years ended December 31, 1998, 1997 and 1996
amounted to $1,005,000, $1,024,000 and $772,000, respectively.
5. DEPOSITS
A summary of deposit balances, by type, is as follows:
December 31,
-------------------------
1998 1997
---------- ----------
(In thousands)
Demand $ 51,936 $ 44,196
NOW 64,888 59,368
Regular savings 279,191 254,741
Money market deposits 71,856 70,599
---------- ----------
Total non-certificate accounts 467,871 428,904
---------- ----------
Term certificates ($100,000 or more) 71,403 53,794
Other term certificates 332,428 339,008
---------- ----------
Total term certificates 403,831 392,802
---------- ----------
Total deposits $ 871,702 $ 821,706
========== ==========
43
<PAGE>
MEDFORD BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
5. DEPOSITS (concluded)
A summary of term certificate accounts, by maturity, is as follows:
December 31, 1998 December 31, 1997
------------------------ ------------------------
Weighted Weighted
Average Average
Amount Rate Amount Rate
---------- ----------- ---------- -----------
(Dollars in thousands)
Within 1 year $ 313,434 5.23% $ 265,321 5.28%
Over 1 year to 3 years 79,183 5.31 114,071 5.93
Over 3 years to 5 years 11,152 5.71 13,276 5.94
Over 5 years 62 4.55 134 5.59
---------- ----------
$ 403,831 5.26% $ 392,802 5.48%
========== ==========
6. SHORT-TERM BORROWINGS
Short-term borrowings consist of the following:
<TABLE>
<CAPTION>
December 31, 1998 December 31, 1997
----------------------- -----------------------
Weighted Weighted
Average Average
Amount Rate Amount Rate
---------- ---------- ---------- ----------
(Dollars in thousands)
<S> <C> <C> <C> <C>
Securities sold under agreements to repurchase $ 38,349 4.01% $ 93,611 5.73%
Federal Reserve Bank of Boston advances 114 4.55 2,059 5.29
---------- ----------
$ 38,463 4.01% $ 95,670 5.72%
========== ==========
</TABLE>
Securities sold under agreements to repurchase are borrowings that mature within
one year and are secured by U.S. Government obligations. (See Note 2.) The
amount of securities collateralizing the agreements to repurchase remains in
investment securities and the obligation to repurchase securities sold is
reflected as a liability in the consolidated balance sheets.
The Company had a $1,925,000 and a $2,000,000 line of credit (treasury, tax and
loan) with the Federal Reserve Bank of Boston at December 31, 1998 and 1997,
respectively, of which $114,000 was advanced at December 31, 1998. The interest
rate adjusts weekly and certain U.S. Government obligations have been pledged as
collateral for the line of credit. (See Note 2.)
The Company also has an available line of credit with the Federal Home Loan Bank
of Boston ("FHLBB") at an interest rate that adjusts daily. Borrowings under the
line are limited to 2% of the Bank's total assets. All borrowings from the FHLBB
are secured by a blanket lien on qualified collateral, defined principally as
75% of the carrying value of first mortgage loans on owner-occupied residential
property and 90% of the market value of U.S. Government and federal agency
securities.
44
<PAGE>
MEDFORD BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
7. LONG-TERM DEBT
Long-term debt consists of FHLBB advances secured by a blanket lien on qualified
collateral (see Note 6), as follows:
December 31, 1998 December 31, 1997
----------------------- ----------------------
Weighted Weighted
Average Average
Maturity Amount Rate Amount Rate
- --------------- ---------- --------- --------- ---------
(Dollars in thousands)
1998 $ -- --% $ 46,992 5.91%
1999 50,000 6.02 50,000 6.02
2000 48,253 5.61 12,717 6.41
2001 28,000 5.45 - --
2003 5,000 5.87 - --
2005 400 5.61 400 5.61
---------- ---------
$ 131,653 5.74% $ 110,109 6.02%
========== =========
8. INCOME TAXES
Allocation of the provision for federal and state income taxes between current
and deferred portions is as follows:
Years Ended December 31,
------------------------------
1998 1997 1996
-------- -------- --------
(In thousands)
Current tax provision:
Federal $ 7,051 $ 6,672 $ 5,774
State 839 1,194 1,366
-------- -------- --------
7,890 7,866 7,140
-------- -------- --------
Deferred tax benefit:
Federal (296) (525) (240)
State (48) (85) (55)
-------- -------- --------
(344) (610) (295)
-------- -------- --------
$ 7,546 $ 7,256 $ 6,845
======== ======== ========
45
<PAGE>
MEDFORD BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
8. INCOME TAXES (continued)
The reasons for the differences between the statutory federal income tax rate
and the effective tax rates are summarized as follows:
Years Ended December 31,
---------------------------
1998 1997 1996
------- ------- -------
Statutory rates 35.0% 35.0% 34.0%
Increase resulting from:
State taxes, net of federal tax benefit 2.6 3.9 5.0
Other, net .5 -- .6
------- ------- -------
Effective tax rates 38.1% 38.9% 39.6%
======= ======= =======
The components of the net deferred tax asset, included in other assets, are as
follows:
December 31,
---------------------
1998 1997
--------- ---------
(In thousands)
Deferred tax assets:
Federal $ 4,413 $ 4,215
State 1,530 1,537
--------- ---------
5,943 5,752
--------- ---------
Deferred tax liabilities:
Federal (2,902) (2,098)
State (822) (642)
--------- ---------
(3,724) (2,740)
--------- ---------
Net deferred tax asset $ 2,219 $ 3,012
========= =========
46
<PAGE>
MEDFORD BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
8. INCOME TAXES (concluded)
The tax effects of each type of income and expense item that give rise to
deferred taxes are as follows:
December 31,
-------------------
1998 1997
-------- --------
(In thousands)
Cash basis of accounting $ 205 $ 124
Investments:
Net unrealized (gain) loss on securities
available for sale (1,969) (832)
Other (290) (284)
Depreciation (1,055) (980)
Deferred loan origination fees 96 100
Allowance for loan losses 2,613 2,482
Employee benefit plans 1,693 1,614
Other 926 788
-------- --------
Net deferred tax asset $ 2,219 $ 3,012
======== ========
A summary of the change in the net deferred tax asset is as follows:
Years Ended December 31,
----------------------------------
1998 1997 1996
--------- --------- ---------
(In thousands)
Balance at beginning of year $ 3,012 $ 3,429 $ 2,151
Deferred tax effect of the change in net
unrealized gains and losses on
securities available for sale (1,137) (1,027) 983
Deferred tax benefit for the year 344 610 295
--------- --------- ---------
Balance at end of year $ 2,219 $ 3,012 $ 3,429
========= ========= =========
The federal income tax reserve for loan losses at the Company's base year is
$8,265,000. If any portion of the reserve is used for purposes other than to
absorb the losses for which established, approximately 150% of the amount
actually used (limited to the amount of the reserve) would be subject to
taxation in the fiscal year in which used. As the Company intends to use the
reserve only to absorb loan losses, a deferred income tax liability of
$3,389,000 has not been provided.
47
<PAGE>
MEDFORD BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
9. COMMITMENTS AND CONTINGENCIES
In the normal course of business, there are outstanding commitments and
contingencies which are not reflected in the consolidated financial statements.
Employment and Special Termination Agreements
The Company has entered into an employment agreement with the President and
Chief Executive Officer that provides for a specified minimum annual
compensation and the continuation of benefits currently received. However, such
employment may be terminated for cause, as defined, without incurring any
continuing obligations. The Company and/or the Bank has also entered into
special termination agreements with the President and Chief Executive Officer
and certain senior executives. The agreements generally provide for certain
lump-sum severance payments within a three-year period following a "change in
control," as defined in the agreements.
Loan Commitments
The Company is a party to financial instruments with off-balance-sheet risk in
the normal course of business to meet the financing needs of its customers.
These financial instruments include commitments to extend credit. Such
commitments involve, to varying degrees, elements of credit and interest rate
risk in excess of the amount recognized on the consolidated balance sheet. The
Company's exposure to credit loss is represented by the contractual amount of
these commitments. The Company uses the same credit policies in making
commitments as it does for on-balance-sheet instruments.
The following financial instruments were outstanding whose contract amounts
represent credit risk:
Contract Amount
at December 31,
-------------------------
1998 1997
---------- ----------
(In thousands)
Commitments to grant loans $ 13,096 $ 14,918
Unadvanced funds on equity lines of credit 24,246 24,848
Unadvanced funds on commercial lines of credit 7,386 8,407
Commitments to extend credit are agreements to lend to a customer as long as
there is no violation of any condition established in the contract. Commitments
generally have fixed expiration dates or other termination clauses and may
require payment of a fee. The commitments for lines of credit may expire without
being drawn upon. Therefore, the total commitment amounts do not necessarily
represent future cash requirements. The Company evaluates each customer's
creditworthiness on a case-by-case basis. Funds disbursed under these financial
instruments are generally collateralized by real estate, except for the
commercial lines of credit which are generally secured by the business assets of
the borrower.
48
<PAGE>
MEDFORD BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
9. COMMITMENTS AND CONTINGENCIES (concluded)
Operating Lease Commitments
Pursuant to the terms of noncancelable lease agreements in effect at December
31, 1998, pertaining to banking premises and equipment, future minimum rent
commitments aggregate $607,000 through the year 2003. In addition, the leases
contain options to extend for periods up to fifteen years. Total rent expense
for the years ended December 31, 1998, 1997 and 1996 amounted to $285,000,
$290,000 and $282,000, respectively.
Other Commitments and Contingencies
Various legal claims also arise from time to time in the normal course of
business which, in the opinion of management, will not have a material effect on
the Company's consolidated financial statements.
10. STOCKHOLDERS' EQUITY
Minimum regulatory capital requirements
The Company (on a consolidated basis) and the Bank are subject to various
regulatory capital requirements administered by the federal banking agencies.
Failure to meet minimum capital requirements can initiate certain mandatory and
possibly additional discretionary actions by regulators that, if undertaken,
could have a direct material effect on the Company's and Bank's financial
statements. Under capital adequacy guidelines and the regulatory framework for
prompt corrective action, the Company and the Bank must meet specific capital
guidelines that involve quantitative measures of their assets, liabilities and
certain off-balance-sheet items as calculated under regulatory accounting
practices. Holding companies are not subject to prompt corrective action
provisions. The capital amounts and classification are also subject to
qualitative judgments by the regulators about components, risk weightings, and
other factors.
Quantitative measures established by regulation to ensure capital adequacy
require the Company and the Bank to maintain minimum amounts and ratios (set
forth in the following table) of total and Tier 1 capital (as defined) to
risk-weighted assets (as defined) and of Tier 1 Capital (as defined) to average
assets (as defined). Management believes, as of December 31, 1998 and 1997, that
the Company and the Bank met all capital adequacy requirements to which they are
subject.
49
<PAGE>
MEDFORD BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
10. STOCKHOLDERS' EQUITY (continued)
Minimum regulatory capital requirements (continued)
As of December 31, 1998, the Company and the Bank were well capitalized under
the applicable regulatory framework. To be categorized as well capitalized, the
Company and the Bank must maintain minimum total risk-based and Tier 1
risk-based ratios as set forth in the following tables. In addition, the Bank
must maintain a minimum Tier 1 capital to average assets to be categorized as
well capitalized. As well capitalized entities, the Company and the Bank are
entitled to engage in specified activities on a more expedited basis than
entities that are not well capitalized. There are no conditions or events that
management believes have changed the Company's or Bank's category. The Company's
and the Bank's actual capital amounts and ratios as of December 31, 1998 and
1997, are also presented in the tables.
<TABLE>
<CAPTION>
December 31, 1998
-----------------------------------------------------------------------------------
Minimum
Minimum To Be Categorized
Capital as Well
Actual Requirement Capitalized
------------------------- ------------------------- -------------------------
Amount Ratio Amount Ratio Amount Ratio
------------- -------- ------------- -------- ------------- --------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Total Capital to Risk-Weighted Assets:
Consolidated $ 101,007 15.2% $ 53,039 8.0% $ -- --%
Bank 97,658 14.7 53,039 8.0 66,299 10.0
Tier 1 Capital to Risk-Weighted Assets:
Consolidated 94,131 14.2 26,519 4.0 -- --
Bank 90,782 13.7 26,519 4.0 39,779 6.0
Tier 1 Capital to Average Assets:
Consolidated 94,131 8.3 45,572 - 4.0 - -- --
56,965 5.0
Bank 90,782 8.0 45,572 - 4.0 - 56,965 5.0
56,965 5.0
</TABLE>
50
<PAGE>
MEDFORD BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
10. STOCKHOLDERS' EQUITY (continued)
Minimum regulatory requirements (continued)
<TABLE>
<CAPTION>
December 31, 1997
-----------------------------------------------------------------------------------
Minimum
Minimum To Be Categorized
Capital as Well
Actual Requirement Capitalized
------------------------- ------------------------- -------------------------
Amount Ratio Amount Ratio Amount Ratio
------------- -------- ------------- -------- ------------- --------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Total Capital to Risk-Weighted Assets:
Consolidated $ 100,938 15.8% $ 51,267 8.0% $ -- --%
Bank 93,910 14.7 51,267 8.0 64,080 10.0
Tier 1 Capital to Risk-Weighted Assets:
Consolidated 94,205 14.7 25,633 4.0 -- --
Bank 87,177 13.6 25,633 4.0 38,450 6.0
Tier 1 Capital to Average Assets:
Consolidated 94,205 8.5 43,334 - 4.0 - -- --
54,167 5.0
Bank 87,177 7.8 43,334 - 4.0 - 54,167 5.0
54,167 5.0
</TABLE>
Restrictions on dividends, loans and advances
Federal and state banking regulations place certain restrictions on dividends
paid and loans or advances made by the Bank to the Company. The total amount of
dividends which may be paid at any date under Massachusetts law is generally
limited to the net profits of the Bank, and loans or advances are limited to 10%
of the Bank's capital stock and surplus, as defined, (which for this purpose
represents Tier 1 and Tier 2 capital, as calculated under the risk-based capital
guidelines, plus the balance of the allowance for loan losses excluded from Tier
2 capital) on a secured basis.
In addition, dividends paid by the Bank to the Company would be prohibited if
the effect thereof would cause the Bank's capital to be reduced below applicable
minimum capital requirements.
At December 31, 1998, $56,965,000 of the Company's equity in the Bank was
restricted and funds available for loans or advances amounted to $9,766,000.
51
<PAGE>
MEDFORD BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
10. STOCKHOLDERS' EQUITY (concluded)
Shareholder Rights Plan
The Company has a Shareholder Rights Plan which distributed one preferred stock
purchase right for each outstanding share of common stock. Such rights only
become exercisable, or transferable apart from the common stock, ten business
days after a person or group acquires beneficial ownership of, or commences a
tender or exchange offer for, 15% or more of the Company's common stock, or the
declaration by the Board of Directors that any person is an Adverse Person. Each
right may then be exercised to acquire one one-hundredth of a share of Series A
Junior Participating Cumulative Preferred Stock at an exercise price specified
in the Company's Amended and Restated Shareholder Rights Agreement, subject to
adjustment. If the Company is acquired in a merger or other business combination
transaction, or 50% of the Company's assets or earning power is sold, the rights
entitle holders to acquire common stock of the Acquiring Person having a value
twice the exercise price of the rights. The rights may be redeemed in whole by
the Company at $.01 per right at any time until the earliest of (i) the
declaration of a person as an Adverse Person, (ii) the tenth day following
public announcement that a 15% position has been acquired, or (iii) the
expiration date of the Company's Amended and Restated Shareholder Rights
Agreement. The rights will expire on September 22, 2003.
11. EMPLOYEE BENEFIT PLANS
Pension Plan
The Bank provides basic and supplemental pension benefits for eligible employees
through the Savings Banks Employees Retirement Association Pension Plan. Each
employee reaching the age of 21 and having completed at least 1,000 hours of
service in one twelve-month period beginning with such employee's date of
employment, or any anniversary thereof, automatically becomes a participant in
the pension plan. Participants are fully vested after three years of such
service. Information pertaining to activity in the plan is as follows:
Years Ended October 31,
------------------------
1998 1997
--------- ---------
(In thousands)
Change in benefit obligation:
Benefit obligation at beginning of year $ 4,965 $ 4,180
Service cost 591 511
Interest cost 360 314
Actuarial (gain) loss (151) 198
Benefits paid (293) (238)
--------- ---------
Benefit obligation at end of year 5,472 4,965
--------- ---------
Change in plan assets:
Fair value of plan assets at beginning of year 4,830 3,994
Actual return on plan assets 395 723
Employer contribution 532 351
Benefits paid (293) (238)
--------- ---------
Fair value of plan assets at end of year 5,464 4,830
--------- ---------
Funded status 8 135
Unrecognized net actuarial gain 1,668 1,577
Transition asset 247 265
--------- ---------
Accrued pension cost $ 1,923 $ 1,977
========= =========
52
<PAGE>
MEDFORD BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
11. EMPLOYEE BENEFIT PLANS (concluded)
Pension Plan (concluded)
Net periodic pension expense for the plan years ended October 31, 1998, 1997 and
1996 consisted of the following:
1998 1997 1996
-------- -------- --------
(In thousands)
Service cost - benefits earned during the year $ 591 $ 511 $ 514
Interest cost on projected benefits 360 313 305
Actual return on plan assets (386) (603) (503)
Net amortization and deferral (19) (19) (19)
Net (gain) loss (69) 224 218
-------- -------- --------
Net periodic pension expense $ 477 $ 426 $ 515
======== ======== ========
Total pension expense for the years ended December 31, 1998, 1997 and 1996
amounted to $486,000, $426,000 and $540,000, respectively.
For the plan years ended October 31, 1998, 1997 and 1996, actuarial assumptions
include an assumed discount rate on benefit obligations of 7.50%, 7.25% and
7.50%, respectively, and an expected long-term rate of return on plan assets of
8.00% for all years. An annual salary increase of 5% was utilized for all years.
401(k) Plan
The Bank maintains a 401(k) plan that provides for voluntary contributions by
participating employees ranging from 1 percent to 15 percent of their
compensation, subject to certain limits based on federal tax laws. Each employee
reaching the age of 21 and having completed at least 1,000 hours of service in
one twelve-month period beginning with such employee's date of employment, or
any anniversary thereof, becomes eligible to participate in the plan. The Bank
may choose to match a portion of the employees' contributions. During the years
ended December 31, 1998, 1997 and 1996, the Bank made matching contributions
equal to twenty-five percent (25%) of the first six percent (6%) of annual
compensation contributed to the plan. For the years ended December 31, 1998,
1997 and 1996, expense attributable to the Plan amounted to $83,000, $77,000 and
$69,000, respectively.
Incentive Plan
The Bank has an executive incentive plan whereby all management executives are
eligible to receive a bonus, proportionate to their respective salary, if the
Bank meets or exceeds certain base standards. The structure of the plan is
reviewed on an annual basis by a designated committee, and performance goals are
then established. Incentive compensation expense amounted to $195,000, $166,000
and $101,000 for the years ended December 31, 1998, 1997 and 1996, respectively.
Executive Supplemental Benefit Agreement
The Company has entered into supplemental executive retirement agreements with
its President that are designed to provide benefits lost under defined benefit
plans and to increase overall retirement benefits. The present value of future
benefits is being accrued over the term of employment. Supplemental compensation
expense for the years ended December 31, 1998, 1997 and 1996 amounted to
$239,000, $99,000 and $36,000, respectively.
53
<PAGE>
MEDFORD BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
12. STOCK OPTION PLANS
The Company has stock option plans, for the benefit of directors, officers and
full-time employees, covering 1,472,000 shares of common stock under the Medford
Savings Bank 1986 Stock Option Plan (the options under which have all been
granted) and 400,000 shares of common stock under the Medford Bancorp, Inc.
Stock Option Plan. Both "Incentive Stock Options" and "Non-qualified Stock
Options" may be granted under the plans, with a maximum option term of ten
years. Under the terms of the plans, stock options may be granted as determined
appropriate by the Compensation and Options Committee of the Board of Directors,
and will have an exercise price equal to, or in excess of, the fair market value
of a share of common stock of the Company on the date the option is granted. The
Company applies APB Opinion 25 and related interpretations in accounting for the
plans. (See Note 1.) The plans also permit the inclusion of stock appreciation
rights ("SARs") in any option granted which would permit the optionee to
surrender an option (or portion thereof) for cancellation and to receive cash or
common stock equal to the excess, if any, of the then fair market value of the
common stock subject to such option or portion thereof over the option exercise
price. No SARs have been granted to date.
Had compensation cost for the Company's stock-based compensation plans been
determined based on the fair value at the grant dates for awards under those
plans consistent with the method prescribed by SFAS No. 123, the Company's net
income and earnings per share would have been reduced to the pro forma amounts
indicated below:
Years Ended December 31,
-------------------------------------
1998 1997 1996
---------- ---------- ----------
(In thousands, except per share data)
Net income:
As reported $ 12,252 $ 11,390 $ 10,429
Pro forma 12,023 11,044 10,351
Basic earnings per share:
As reported $ 1.38 $ 1.25 $ 1.15
Pro forma 1.35 1.22 1.14
Diluted earnings per share:
As reported $ 1.31 $ 1.19 $ 1.10
Pro forma 1.28 1.16 1.10
In determining the pro forma amounts, the fair value of each option grant was
estimated as of the date of grant using the Black-Scholes option-pricing model
with the following weighted-average assumptions:
Years Ended December 31,
----------------------------------
1998 1997 1996
---------- --------- ---------
Dividend yield 3.5% 3.7% 3.7%
Expected life 10 years 10 years 10 years
Expected volatility 52% 59% 66%
Risk-free interest rate 5.3% 5.7% 6.6%
54
<PAGE>
MEDFORD BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
12. STOCK OPTION PLANS (concluded)
Stock option activity under the plans is as follows:
<TABLE>
<CAPTION>
Years Ended December 31,
----------------------------------------------------------------------------------------
1998 1997 1996
--------------------------- --------------------------- --------------------------
Weighted Weighted Weighted
Average Average Average
Exercise Exercise Exercise
Amount Price Amount Price Amount Price
----------- ------------ ----------- ------------- ----------- -----------
<S> <C> <C> <C> <C> <C> <C>
Shares under option:
Outstanding at beginning of year $ 761,352 $ 6.41 $ 708,352 $ 5.21 $ 907,268 $ 4.45
Granted 49,500 18.40 66,000 18.38 24,000 11.07
Cancelled (4,000) 19.75 -- -- -- --
Exercised (81,000) 4.43 (13,000) 2.60 (222,916) 2.74
----------- ----------- -----------
Outstanding at end of year 725,852 7.37 761,352 6.41 708,352 5.21
=========== =========== ===========
Exercisable at end of year 646,952 6.04 688,152 4.89 630,598 4.67
=========== =========== ===========
Weighted average fair value of
options granted during the year $ 7.98 $ 8.74 $ 5.36
=========== =========== ===========
</TABLE>
Information pertaining to options outstanding at December 31, 1998 is as
follows:
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
---------------------------------------------- -----------------------------
Weighted
Average Weighted Weighted
Remaining Average Average
Range of Number Contractual Exercise Number Exercise
Exercise Prices Outstanding Life Price Exercisable Price
--------------- ------------- ----------- -------------- -----------
<S> <C> <C> <C> <C> <C>
$2.59 - $3.06 246,000 2.0 Years $ 2.62 246,000 $ 2.62
$3.81 - $5.44 173,772 3.8 4.79 173,772 4.79
$6.12 - $7.22 26,000 6.6 6.95 26,000 6.95
$8.63 - $9.72 141,180 5.6 9.49 141,180 9.49
$10.38 - $10.88 22,400 7.2 10.56 20,600 10.55
$12.44 - $12.88 17,000 8.2 12.57 13,400 12.48
$16.81 - $21.63 99,500 9.4 19.08 26,000 20.18
--------------- --------------
Outstanding at end of year 725,852 4.5 Years $ 7.37 646,952 $ 6.04
=============== ==============
</TABLE>
13. EMPLOYEES' STOCK OWNERSHIP PLAN
The Company has an Employees' Stock Ownership Plan ("ESOP") for the benefit of
each employee that has reached the age of 21 and has completed at least 500
hours of service with the Company in the previous twelve-month period. The
Company may contribute to the ESOP cash or shares of common stock as voted by
the Board of Directors, not to exceed the maximum amount deductible for federal
income tax purposes. At December 31, 1998, the ESOP held 426,776 shares, all of
which have been allocated to participants and included in outstanding shares for
earnings per share calculations. Dividends on all shares held by the ESOP are
allocated to participants on a pro rata basis. There were no contributions to
the ESOP for the years ended December 31, 1998, 1997 or 1996.
55
<PAGE>
MEDFORD BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
14. FAIR VALUE OF FINANCIAL INSTRUMENTS
SFAS No. 107, "Disclosures about Fair Value of Financial Instruments", requires
disclosures of estimated fair values of all financial instruments where it is
practicable to estimate such values. In cases where quoted market prices are not
available, fair values are based on estimates using present value or other
valuation techniques. Those techniques are significantly affected by the
assumptions used, including the discount rate and estimates of future cash
flows. Accordingly, the derived fair value estimates cannot be substantiated by
comparison to independent markets and, in many cases, could not be realized in
immediate settlement of the instrument. Statement No. 107 excludes certain
financial instruments and all non-financial instruments from its disclosure
requirements. Accordingly, the aggregate fair value amounts presented do not
represent the underlying value of the Company.
The following methods and assumptions were used by the Company in estimating
fair value disclosures for financial instruments:
Cash and cash equivalents: The carrying amounts of cash and short-term
instruments approximate fair values.
Investment securities: Fair values for investment securities are based on quoted
market prices.
Restricted equity securities: The carrying value of Federal Home Loan Bank of
Boston stock approximates fair value based on stock redemption provisions. The
carrying value of SBLI stock is deemed to approximate fair value.
Loans: For variable-rate loans that reprice frequently and with no significant
change in credit risk, fair values are based on carrying values. Fair values for
other loans (e.g., commercial real estate and investment property mortgage
loans, commercial and industrial loans) are estimated using discounted cash flow
analyses, using interest rates currently being offered for loans with similar
terms to borrowers of similar credit quality. Fair values for non-performing
loans are estimated using discounted cash flow analyses or underlying collateral
values, where applicable.
Deposits: The fair values disclosed for non-certificate accounts are, by
definition, equal to the amount payable on demand at the reporting date which is
the carrying amount. Fair values for fixed-rate certificates of deposit are
estimated using a discounted cash flow calculation that applies interest rates
currently being offered on certificates to a schedule of aggregated expected
monthly maturities on time deposits.
Borrowings: The carrying amounts of short-term borrowings maturing within ninety
days approximate their fair values. Fair values of other borrowings are
estimated using discounted cash flow analyses based on the Company's current
incremental borrowing rates for similar types of borrowing arrangements.
Accrued interest: The carrying amounts of accrued interest approximate fair
value.
Off-balance-sheet instruments: Fair values for off-balance-sheet lending
commitments are based on fees currently charged to enter into similar
agreements, taking into account the remaining terms of the agreements and the
counterparties' credit standing, and are not material.
56
<PAGE>
MEDFORD BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
14. FAIR VALUE OF FINANCIAL INSTRUMENTS (concluded)
The estimated fair values, and related carrying amounts, of the Company's
financial instruments are as follows:
<TABLE>
<CAPTION>
December 31,
-----------------------------------------------------
1998 1997
------------------------ -------------------------
Carrying Fair Carrying Fair
Amount Value Amount Value
----------- ----------- ----------- -----------
(In thousands)
<S> <C> <C> <C> <C>
Financial assets:
Cash and cash equivalents $ 22,002 $ 22,002 $ 16,180 $ 16,180
Investment securities available for sale 475,169 475,169 402,723 402,723
Investment securities held to maturity 29,043 29,329 103,823 104,102
Restricted equity securities 8,436 8,436 6,872 6,872
Loans, net 580,665 585,457 570,844 575,045
Accrued interest receivable 8,230 8,230 9,472 9,472
Financial liabilities:
Deposits 871,702 873,949 821,706 822,449
Short-term borrowings 38,463 38,463 95,670 95,670
Long-term debt 131,653 131,770 110,109 110,293
Accrued interest payable 1,092 1,092 995 995
</TABLE>
57
<PAGE>
MEDFORD BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
15. CONDENSED FINANCIAL STATEMENTS OF PARENT COMPANY
Financial information pertaining only to Medford Bancorp, Inc. is as follows:
BALANCE SHEETS
December 31,
------------------------
1998 1997
---------- ----------
(In thousands)
Assets
- ------
Short-term investments with Medford Savings Bank $ 3,221 $ 7,028
Investment in common stock of Medford Savings Bank 98,918 94,481
Due from Medford Savings Bank 1,775 1,650
Other assets 104 --
---------- ----------
Total assets $ 104,018 $ 103,159
========== ==========
Liabilities and Stockholders' Equity
- ------------------------------------
Accrued expenses $ 9 $ 14
Other liabilities 1,742 1,635
---------- ----------
Total liabilities 1,751 1,649
Stockholders' equity 102,267 101,510
---------- ----------
Total liabilities and stockholders' equity $ 104,018 $ 103,159
========== ==========
58
<PAGE>
MEDFORD BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
15. CONDENSED FINANCIAL STATEMENTS OF PARENT COMPANY (continued)
STATEMENTS OF INCOME
<TABLE>
<CAPTION>
Years Ended December 31,
-------------------------
1998 1997
----------- -----------
(In thousands)
<S> <C> <C>
Interest on short-term investments with Medford Savings Bank $ 142 $ 30
Dividend from Medford Savings Bank 9,600 7,000
----------- -----------
9,742 7,030
Operating expenses 147 6
----------- -----------
Income before income taxes and equity in
undistributed net income of Medford Savings Bank 9,595 7,024
Applicable income tax provision (benefit) (3) 10
----------- -----------
9,598 7,014
Equity in undistributed net income of Medford Savings Bank 2,654 4,376
----------- -----------
Net income $ 12,252 $ 11,390
=========== ===========
</TABLE>
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
Years Ended December 31,
--------------------------
1998 1997
---------- -----------
(In thousands)
<S> <C> <C>
Cash flows from operating activities:
Net income $ 12,252 $ 11,390
Adjustments to reconcile net income to net
cash provided by operating activities:
Equity in undistributed net income of
Medford Savings Bank (2,654) (4,376)
Other, net (73) 14
---------- -----------
Net cash provided by operating activities 9,525 7,028
---------- -----------
Cash flows from financing activities:
Proceeds from issuance of common stock 359 --
Payments to acquire treasury stock (9,378) --
Cash dividends paid (4,313) --
---------- -----------
Net cash used by financing activities (13,332) --
---------- -----------
Net change in cash and cash equivalents (3,807) 7,028
Cash and cash equivalents, beginning of period 7,028 --
---------- -----------
Cash and cash equivalents, end of period $ 3,221 $ 7,028
========== ===========
</TABLE>
59
<PAGE>
MEDFORD BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
16. QUARTERLY DATA (UNAUDITED)
A summary of consolidated operating results on a quarterly basis is as follows:
<TABLE>
<CAPTION>
Year Ended December 31, 1998
----------------------------------------------
Fourth Third Second First
Quarter Quarter Quarter Quarter
---------- --------- --------- ---------
(In thousands, except per share data)
<S> <C> <C> <C> <C>
Interest and dividend income $ 19,042 $ 19,198 $ 19,172 $ 19,390
Interest expense (10,624) (10,876) (10,528) (10,585)
---------- --------- --------- ---------
Net interest income 8,418 8,322 8,644 8,805
Provision for loan losses -- -- -- (75)
---------- --------- --------- ---------
Net interest income, after provision for loan losses 8,418 8,322 8,644 8,730
Other income 1,287 918 1,227 1,326
Operating expenses (5,000) (4,783) (4,606) (4,685)
---------- --------- --------- ---------
Income before income taxes 4,705 4,457 5,265 5,371
Provision for income taxes (1,771) (1,625) (2,027) (2,123)
---------- --------- --------- ---------
Net income $ 2,934 $ 2,832 $ 3,238 $ 3,248
========== ========= ========= =========
Earnings per share:
Basic $ 0.34 $ 0.32 $ 0.36 $ 0.36
========== ========= ========= =========
Diluted $ 0.32 $ 0.31 $ 0.34 $ 0.34
========== ========= ========= =========
<CAPTION>
Year Ended December 31, 1997
----------------------------------------------
Fourth Third Second First
Quarter Quarter Quarter Quarter
---------- --------- --------- ---------
(In thousands, except per share data)
<S> <C> <C> <C> <C>
Interest and dividend income $ 19,464 $(19,114 $ 18,586 $ 18,168
Interest expense (10,883) (10,585) (10,133) (9,748)
---------- --------- --------- ---------
Net interest income 8,581 8,529 8,453 8,420
Provision for loan losses -- -- (50) (75)
---------- --------- --------- ---------
Net interest income, after provision for loan losses 8,581 8,529 8,403 8,345
Other income 789 764 1,288 1,001
Operating expenses (5,068) (4,797) (4,567) (4,622)
---------- --------- --------- ---------
Income before income taxes 4,302 4,496 5,124 4,724
Provision for income taxes (1,545) (1,786) (2,032) (1,893)
---------- --------- --------- ---------
Net income $ 2,757 $ 2,710 $ 3,092 $ 2,831
========== ========= ========= =========
Earnings per share:
Basic $ 0.31 $ 0.30 $ 0.34 $ 0.31
========== ========= ========= =========
Diluted $ 0.29 $ 0.28 $ 0.33 $ 0.30
========== ========= ========= =========
</TABLE>
60
<PAGE>
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
With the exception of certain information regarding the executive officers of
the Company and the Bank, the response to this item is incorporated by reference
from the discussion under the captions "Directors" and "Section 16(a) Beneficial
Ownership Reporting Compliance" in the Company's definitive Proxy Statement for
the Annual Meeting of Stockholders to be held on April 26, 1999 (the "Proxy
Statement"), to be filed with the SEC pursuant to Regulation 14A of the Exchange
Act Rules.
Information regarding the executive officers of the Company and the Bank is
contained in Item I of Part I to this Report under the caption "Executive
Officers of the Registrant."
ITEM 11. EXECUTIVE COMPENSATION
The response to this item is incorporated by reference from the discussion under
the captions "Executive Compensation" and "The Board of Directors, its
Committees and Compensation" in the Company's Proxy Statement.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The response to this item is incorporated by reference from the discussion under
the caption "Ownership by Management and Other Stockholders" in the Company's
Proxy Statement.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The response to this item is incorporated by reference from the discussion under
the caption "Relationships and Transactions with the Company" in the Company's
Proxy Statement.
61
<PAGE>
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) Contents:
(1) Financial Statements: All financial statements are included in Item
8 of Part II to this Report.
(2) Financial Statement Schedules: All financial statement schedules
have been omitted because they are not required, not applicable or
are included in the consolidated financial statements or related
notes.
(3) Exhibits:
EXHIBIT INDEX
Exhibit Description
- ------- -----------
2.1 Plan of Reorganization and Acquisition dated as of July 29, 1997
between the Company and the Bank (filed as Exhibit 2.1 to the
Company's Current Report on Form 8-K filed with the SEC on November
26, 1997, and incorporated herein by reference)
3.1 Articles of Organization of the Company (filed as Exhibit 3.1 to the
Company's Current Report on Form 8-K filed with the SEC on November
26, 1997, and incorporated herein by reference)
3.2 Amended Articles of Organization of the Company (filed as Exhibit
3.1 to the Company's Current Report on Form 8-K filed with the SEC
on May 15, 1998, and incorporated herein by reference)
3.3 Amended and Restated By-laws of the Company (filed as Exhibit 3.2 to
the Company's Annual Report on Form 10-K filed with the SEC on March
23, 1998, and incorporated herein by reference)
4.1 Specimen certificate for shares of Common Stock of the Company
(filed as Exhibit 4.1 to the Company's Current Report on Form 8-K
filed with the SEC on November 26, 1997, and incorporated herein by
reference)
4.2 Articles IV, VI(A), VI(C), VI(I)-(J) of Articles of Organization of
the Company (see Exhibit 3. 1)
4.3 Articles II and V of the By-laws of the Company (see Exhibit 3.3)
4.4 Amended and Restated Shareholder Rights Agreement, dated November
26, 1997, between Medford Bancorp, Inc. and State Street Bank and
Trust Company, as Rights Agent (filed as Exhibit 10. 1 to the
Company's Current Report on Form 8-K filed with the SEC on November
26, 1997, and incorporated herein by reference)
10.1 Amended and Restated Employment Agreement with Arthur H. Meehan
(filed as Exhibit 10.1 to the Company's Annual Report on Form 10-K
filed with the SEC on March 23, 1998, and incorporated herein by
reference)
10.2 Amended and Restated Special Termination Agreement with Arthur H.
Meehan (filed as Exhibit 10.2 to the Company's Annual Report on Form
10-K filed with the SEC on March 23, 1998, and incorporated herein
by reference)
10.3 Amended and Restated Special Termination Agreement with Phillip W.
Wong (filed as Exhibit 10.3 to the Company's Annual Report on Form
10-K filed with the SEC on March 23, 1998, and incorporated herein
by reference)
10.4 Amended and Restated Special Termination Agreement with George A.
Bargamian (filed as Exhibit 10.4 to the Company's Annual Report on
Form 10-K filed with the SEC on March 23, 1998, and incorporated
herein by reference)
10.5 Amended and Restated Special Termination Agreement with Eric B. Loth
(filed as Exhibit 10.5 to the Company's Annual Report on Form 10-K
filed with the SEC on March 23, 1998, and incorporated herein by
reference)
62
<PAGE>
10.6 Amended and Restated Special Termination Agreement with William F.
Rivers (filed as Exhibit 10.6 to the Company's Annual Report on Form
10-K filed with the SEC on March 23, 1998, and incorporated herein
by reference)
10.7 Supplemental Executive Retirement Plan and Corresponding Adoption
Agreement with Arthur H. Meehan (filed as Exhibit 10.7 to the
Company's Annual Report on Form 10-K filed with the SEC on March 23,
1998, and incorporated herein by reference)
10.8 Executive Supplemental Benefit Agreement with Arthur H. Meehan
(filed as Exhibit 10.8 to the Company's Annual Report on Form 10-K
filed with the SEC on March 23, 1998, and incorporated herein by
reference)
10.9 Deferred Investment Plan for Outside Directors (filed as Exhibit 4.4
to the Company's Registration Statement on Form S-8 filed with the
SEC on December 24, 1997, and incorporated herein by reference)
10.10 First Amendment to Deferred Investment Plan for Outside Directors
(filed as Exhibit 4.5 to the Company's Registration Statement on
Form S-8 filed with the SEC on December 24, 1997, and incorporated
herein by reference)
10.11 Medford Savings Bank 1986 Stock Option Plan (filed as Exhibit 4.4 to
the Company's Registration Statement on Form S-8 filed with the SEC
on November 26, 1997, and incorporated herein by reference)
10.12 Medford Bancorp, Inc. Stock Option Plan (filed as Exhibit 4.5 to the
Company's Registration Statement on Form S-8 filed with the SEC on
November 26, 1997, and incorporated herein by reference)
10.13 Discretionary Bonus Plan (not set forth in a formal document -- a
description of the plan is contained in both the Proxy Statement to
be filed with the SEC, and incorporated herein by reference, under
the caption "Compensation Committee Report on Executive
Compensation" and in the "Notes to Consolidated Financial
Statements" under the caption "Employee Benefit Plans -- Incentive
Plan" in Item 8 to this Report)
11 Statement Regarding Computation of Per Share Earnings -- Such
computation can be clearly determined from the material contained in
this Report.
12 Statement Regarding Computation of Ratios -- As the Company does not
have any debt securities registered under Section 12 of the
Securities and Exchange Act of 1934, no ratio of earnings to fixed
charges appears in this Report.
13 Medford Bancorp, Inc. 1998 Annual Report, which, except for those
portions expressly incorporated herein by reference, is furnished
only for the information of the SEC and is not deemed to be filed.
21 Subsidiaries of the Company -- The Company has one direct
subsidiary: Medford Savings Bank, a Massachusetts-chartered savings
bank in stock form. Medford Savings Bank has one subsidiary: Medford
Securities Corporation, a Massachusetts corporation.
23 Consent of Wolf & Company, P.C. as independent certified public
accountants
27 Financial Data Schedule
(b) Reports on Form 8-K: None.
63
<PAGE>
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
MEDFORD BANCORP, INC.
By: /s/ Arthur H. Meehan
-----------------------------
Arthur H. Meehan
Chairman, President,
Chief Executive Officer and Director
Date: March 3, 1999
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the registrant and
in the capacities and on the dates indicated.
/s/ Arthur H. Meehan Chairman, President, Chief
- ------------------------------ Executive Officer and Director March 3, 1999
Arthur H. Meehan
/s/ Phillip W. Wong Executive Vice President
- ------------------------------ and Chief Financial Officer March 3, 1999
Phillip W. Wong
/s/ Edward D. Brickley Director March 3, 1999
- ------------------------------
Edward D. Brickley
/s/ David L. Burke Director March 3, 1999
- ------------------------------
David L. Burke
Director March 3, 1999
- ------------------------------
Paul J. Crowley
Director March 3, 1999
- ------------------------------
Mary L. Doherty
Director March 3, 1999
- ------------------------------
Edward J. Gaffey
/s/ Andrew D. Guthrie, Jr. Director March 3, 1999
- ------------------------------
Andrew D. Guthrie, Jr.
/s/ Robert A. Havern, III Director March 3, 1999
- ------------------------------
Robert A. Havern, III
/s/ Eugene R. Murray Clerk and Director March 3, 1999
- ------------------------------
Eugene R. Murray
/s/ Francis D. Pizzella Director March 3, 1999
- ------------------------------
Francis D. Pizzella
64
[GRAPHIC OMITTED]
Medford Bancorp, Inc.
1998 ANNUAL REPORT
<PAGE>
[GRAPHIC OMITTED]
Tewksbury
North Reading
Wilmington
Burlington
Medford
Malden
Arlington
Belmont
Waltham
Boston
Arlington
Route 60 & Mystic
Valley Parkway
781.393.6355
Belmont
4 Hill Road, Corner
of Brighton St.
781.393.6320
Burlington
258 Cambridge St.
781.272.5700
Malden
Malden Center
399 Main St.
781.393.6386
Broadway
44 Broadway
781.393.6334
Maplewood
28 Lebanon St.
781.393.6329
Oak Grove
876 Main St.
781.393.6326
West Side
443 Charles St.
781.393.6337
Medford
Main Office
29 High St.
781.395.7700
Loan Center
5 High St.
781.395.7700
Haines Square
257 Spring St.
781.393.6380
South Medford
448 Main St.
781.393.6340
Wellington
499 Riverside Ave.
781.393.6350
West Medford
501 High St.
781.393.6344
North Reading
80 Main St.
978.664.5581
Tewksbury
295 Main St.
978.851.0841
Waltham
695 Main St.
781.647.4848
Wilmington
240 Main St.
978.658.9134
<PAGE>
[LOGO]
Medford Bancorp, Inc.
FINANCIAL HIGHLIGHTS
- --------------------------------------------------------------------------------
(dollars in thousands) 1998 1997
Total Assets $1,151,188 $1,135,572
Investment Securities 512,648 513,418
Net Loans 580,665 570,844
Deposits 871,702 821,706
Total Borrowings 170,116 205,779
Net Income 12,252 11,390
Stockholders' Equity 102,267 101,510
Shares Outstanding 8,709,828 9,082,296
Per Common Share:
Basic Earnings $ 1.38 $ 1.25
Diluted Earnings 1.31 1.19
Book Value 11.74 11.18
Cash Dividends Declared 0.50 0.45
Financial Ratios:
Return on Average Assets 1.09% 1.05%
Return on Average Equity 11.99 11.81
Stockholders' Equity to Assets 8.88 8.94
Net Interest Rate Spread 2.72 2.84
Net Yield on Average Earning Assets 3.16 3.26
Employees (at year end), Full-Time Equivalent 252 252
Shareholders of Record 1,158 1,187
- --------------------------------------------------------------------------------
Annual Meeting
The Annual Meeting of Shareholders will be held April 26, 1999 at 10 a.m. at
Medford Bank, 5 High Street, Suite 202, Medford, Massachusetts.
Corporate Information
Medford Bancorp, Inc.
Medford Bank
29 High Street
Medford, MA 02155
781.395.7700
www.medfordbank.com
Accessing Information
Additional copies of this Annual Report and Form 10-K may be obtained without
charge by writing to the Company's Shareholder Relations Department. These
reports are also available to the public on request as required by the
Securities and Exchange Commission (SEC). These statements have not been
reviewed or confirmed for accuracy or relevance by the SEC.
1
<PAGE>
[LOGO] shareholders' letter
DEAR SHAREHOLDERS
[PHOTO OMITTED]
Arthur H. Meehan,
Chairman, President and CEO
- --------------------------------------------------------------------------------
We experienced another profitable and successful year for Medford Bancorp, Inc.
As we continue to operate in a competitive environment, our challenge remains to
manage the Company efficiently to produce the optimum return to our
shareholders.
The Board of Directors remains actively involved, as evidenced by their
participation in the strategic planning session with senior management held in
the spring of 1998. Our annual strategic planning sessions and the resulting
plans provide valuable management tools for improved performance.
In 1998, we utilized the holding company structure to exercise greater control
in managing capital with the announcement and completion of a 5% stock
repurchase plan. A total of 453,468 shares of common stock were repurchased. In
addition, we recently announced another stock repurchase plan of up to 5% of
outstanding shares. In the third quarter of 1998 we issued a 2-for-1 stock
split, which was effected in the form of a stock dividend. This makes the price
of the shares of Medford Bancorp, Inc. more attractive and encourages broader
individual ownership.
Our underlying strategy to grow profitably is paramount and factors into all
decisions. Balance sheet size and market share are typical measurements of
growth; however, size alone is not important in achieving stated objectives to
enhance shareholder value. All product offerings are assessed critically as to
risk and contribution to profitability. As a result, we decided to exit the
student loan business, due to changes in government pricing, and sold our $11
million portfolio at a premium.
Understanding the value of our core competencies as a community bank is of vital
importance and a competitive advantage. We will continue to be a low cost
provider of services and we will remain highly focused, not straying far from
the fundamentals of taking deposits and making loans.
We continue to be a customer-friendly, deposit-driven institution. Our deposits
grew by a respectable $50 million, or 6%, to $872 million at year-end. Believing
that a community presence is essential in establishing, maintaining and growing
core deposit relationships, we successfully opened our 17th branch office in
Tewksbury. We will continue to prudently evaluate other possible de novo sites
with desirable characteristics in selected targeted markets in accordance with
our strategic plans. We also reopened our North Reading office after extensive
renovations were made to the plaza and new anchor tenants brought in.
2
<PAGE>
1998 annual report [LOGO]
PEOPLE YOU KNOW
EXPERIENCE YOU TRUST
- --------------------------------------------------------------------------------
Other factors that attributed to the growth in deposits were our product
offerings and the introduction of a municipal call program. Our ComboPlus
combined savings and checking packaged account grew by over $33 million in 1998.
Also, our new municipal calling program generated over $15 million by assisting
town treasurers in managing short term deposit needs. Our deposit market share
remains a dominant 49% in Medford and 42% in Malden, while increasing in the
other communities where we have branches.
Lending activities were strongest within our residential lending division. A
heated real estate market was fueled by attractive interest rates, strong
employment, and the stock market. Our lenders were able to capitalize on this
and generated $178.6 million in new mortgage loans, a 71% increase compared to
1997 levels. The net result was a portfolio gain of $32 million after adjusting
for amortizations, sales and prepayments.
Year 2000 planning efforts, beginning in 1997, accelerated in 1998. Members of
our senior management team serve on our Y2K task force, along with other key
management staff. During the year the task force directed preparation activities
in accordance with our plan, making steady progress toward Y2K compliance. This
work is now substantially near completion, and we remain diligent in our efforts
to keep Year 2000 compliance a top priority.
I am pleased to announce new members to our senior management team with the
promotions of Vincent Gargano, David Korp and Anthony Visco to senior vice
presidents. Mr. Gargano is responsible for risk management and strategic
planning, Mr. Korp heads our deposit operations and systems departments, and Mr.
Visco heads our residential mortgage division. I offer my personal
congratulations for their individual accomplishments and also extend my
appreciation to all employees in recognition of their talents and contributions
to our success.
In closing, I would like to thank you, our shareholders, for your confidence and
support.
/s/ Arthur H. Meehan
Arthur H. Meehan
Chairman of the Board
President and Chief Executive Officer
[The following information was depicted as bar charts in the printed material.]
Stock Price (year end)
1996 1997 1998
$12.87 $19.62 $16.75
Book Value (year end)
1996 1997 1998
$10.20 $11.18 $11.74
Basic Earnings per Share
1996 1997 1998
$1.15 $1.25 $1.38
Cash Dividends Declared
1996 1997 1998
$0.42 $0.45 $0.50
3
<PAGE>
[LOGO] the year in review
Deposit Mix as of
December 31, 1998
(in thousands)
[The following information was depicted a pie chart in the printed material.]
Term CDs $403,831 46.33%
Demand & Official Checks $116,824 13.40%
Savings $279,191 32.03%
Money Market $71,856 8.24%
THE YEAR IN REVIEW
- --------------------------------------------------------------------------------
Financial Performance
We continue to focus on enhancing financial performance as measured by
improvement in earnings per share and continued earnings growth from year to
year. For the year ended December 31, 1998, we reported consolidated net income
of $12,252,000 and basic earnings per share of $1.38 ($1.31 on a diluted basis)
compared with net income of $11,390,000 and basic earnings per share of $1.25
($1.19 on a diluted basis) for 1997. Diluted earnings per share increased $.12,
or 10%, with an $862,000, or 7.6%, increase in net income from the previous
year.
We were especially pleased with the declaration of our sixth consecutive special
dividend in December and total dividends of $.50 per share in 1998, an 11%
increase from the prior year. Even with the Company's strong dividend policy and
stock repurchase program in 1998, book value per share grew to $11.74 on
December 31, 1998, as compared to $11.18 on December 31, 1997, a 5% increase.
Shareholders' equity exceeds $100 million, at $102.3 million, and the
equity-to-assets ratio remains strong at 8.88%.
The improvement in net income for 1998 when compared to 1997 reflects a $206,000
increase in net interest income driven by higher average earning assets and an
increase in net gains on the sale of securities and loans amounting to $899,000.
Non-interest expenses increased modestly in 1998 when compared with 1997. An
increase of $468,000 in salaries and employee benefits during 1998 was offset by
the elimination of one-time expenses of approximately $460,000 related to the
formation of the holding company and tax filing matters recorded in 1997.
Net interest income for 1998 improved by a modest $206,000 from last year due to
higher average earning assets partially offset by interest rate margin
compression. In 1998, net interest margin declined to 3.16%, or 10 basis points,
from last year, due to intense pricing competition for loans and deposits. In
1998, long term rates continued to decline as short term rates remained
unchanged, resulting in a flattening of the yield curve. Although the Company
achieved record residential loan originations, it also experienced unusually
high residential and commercial real estate loan prepayments and refinancing
related to the steep decline in interest rates, placing pressure on net interest
margin. This, coupled with our decisions to originate certain loans on a
correspondent basis only and to exit the student loan business due to
profitability concerns, resulted in gross loans of $587.5 million at December
31, 1998, an increase of only $10 million from the prior year.
Asset quality remains strong with total non- performing assets at $1,932,000, or
0.17%, of total assets at December 31, 1998, a modest increase from $1,774,000,
or 0.16%, of total assets at December 31, 1997. The allowance for loan losses
stood at $6,876,000 and $6,733,000, representing 1.17% of total loans at
December 31, 1998 and 1997, respectively.
The Company had total assets of $1.15 billion and deposits of $872 million at
December 31, 1998. When comparing period-end balances, growth in loans and
investments was modest while deposits grew by a stronger level of $50 million,
or 6%. This deposit growth allows for a corresponding reduction in the level of
borrowings, aiding in the maintaining of the net interest margin.
Community Banking
Our Retail Branch Network
With the opening of our 17th office in Tewksbury, we now operate in nine
communities. The branch is the key to community banking, and we constantly
evaluate our branches to improve customer service. For example, we upgraded
teller software, reduced transaction processing time and adjusted staffing
schedules to better service customers. We continually monitor our service
quality levels through an outside vendor and consistently measure above our
peer group.
During the year we also enhanced our Main Office by building a customer parking
lot on our property which connects our Main Office and Loan Center.
4
<PAGE>
1998 annual report [LOGO]
[PHOTO OMITTED]
Our branch management team with Art Meehan, Chairman, President and CEO.
This improves customer convenience and access to our downtown Medford
operations. Our Malden Center location will also benefit with a new municipal
parking lot adjacent to it, which will accommodate approximately 50 cars.
As mentioned earlier, we are benefiting greatly at our North Reading office
where substantial development of the plaza by the owner attracted new tenants.
Our retention strategies to preserve accounts and deposits during the
seven-month closure were very successful. The shopping center now is a
destination of many local residents who frequent our new neighbors, Wal-Mart and
Marshalls. With higher visibility, increased traffic, and a new ATM machine, we
have confidence that this location will prove even more advantageous in building
the customer base.
While the branch office remains an important delivery channel, we continue to
strengthen our non-branch banking operations. Further development of alternative
delivery channels to augment the branch network and increase customer
convenience is essential in remaining competitive. Our Call Center provides
toll-free access and allows customers to open accounts from the comfort of home.
Our web site at www.medfordbank.com provides instant access to current deposit
and loan rates, as well as other product information and employment
opportunities. InfoLine, our 24-hour automated telephone banking service,
currently handles more than 23,000 calls monthly. By joining SUM, the
surcharge-free ATM alliance of over 200 community banks, our ATM customers have
access to more than 1,000 ATMs surcharge-free. Additionally, the debit card has
been gaining popularity and is becoming the card of choice for many customers.
Special programs help us to retain relationships, grow deposits and,
importantly, continue to distinguish us as a community bank. Our Freedom 55
mature market program offers free and discounted banking services as well as
group-travel opportunities. The highlight for 1998 was a cruise to Hawaii. With
over 3,200 members in Our Club for Kids, we have expanded this program to
include several in-school savings programs. In 1998, we introduced a new
program, Workplace Partner. This program affords employees of member companies
an exclusive package of services, ranging from higher CD rates to discounted
loans. All of these programs, along with our emphasis on quality service,
illustrate our commitment to community banking.
[PHOTO OMITTED]
We opened our Tewksbury Office in September of 1998.
(From left to right):
Barbara Purcell, Maplewood Office
Linda A. Iacono, Main Office
Andree Brulhart, Wilmington Office
Catherine Masiello, Belmont Office
Judith A. Gilligan, Wellington Office
Christine Santapaola, Haines Square Office
Stephanie M. Tiernan, Broadway Office
Arthur H. Meehan, Chairman, President and CEO
Deborah White, North Reading Office
Cheryl A. Cannon, Oak Grove Office
Kelly Hannify, West Medford Office
Teresa Cunha, Malden Center Office
Lea Hamel, South Medford Office
Kathleen M. Beasley, West Side Office
Heather Owen, Waltham Office
Kathleen Pasquale, Tewksbury Office
Not present:
Linda Kane, Arlington Office
Karla Lucas, Burlington Office
5
<PAGE>
[LOGO] the year in review
Loan Mix as of
December 31, 1998
(in thousands)
[The following information was depicted a pie chart in the printed material.]
Residential Mortgages $422,657 71.94%
Commercial Mortgages $109,561 18.65%
Second Mortgages/Equity Lines $21,733 3.70%
Consumer Loans $3,145 0.53%
Commercial Loans $17,372 2.96%
Construction Mortgages $13,073 2.22%
- --------------------------------------------------------------------------------
Lending Activities
Our Residential Lending Division enjoyed another successful year generating
record-level mortgage loan originations. The prior year's achievement of $104
million in one to four family mortgage loans was surpassed in 1998 with an
impressive $178.6 million.
The higher origination volume is the result of an active real estate market and
the effectiveness of our mortgage originators in capturing business. Included in
this volume were originations on behalf of correspondents, consisting of 30-year
fixed rate mortgage loans. This enhanced fee income and more effectively managed
interest rate risk. Our residential mortgage loan portfolio now exceeds $422
million, representing 71.94% of total loans.
We continue to be a top residential mortgage provider within our market area,
and our market share rankings reflect this strength. We hold the number one
position for mortgage loan volume in the cities of Malden and Medford, and we
rank third overall in our primary market area. Our lending area includes the
primary market area where branches are located and extends to cover more than
100 cities and towns. With a substantial increase in mortgage originations
during 1998, we added an in-house mortgage originator to better manage the
growth. This addition to staff allows our team of "on-the-road" originators to
concentrate their efforts within defined territories of the lending area.
We have earned a reputation as a leading lender in local communities with our
broad range of mortgage options. Competitive pricing and special programs that
make home ownership easier and more affordable have contributed to our success.
As examples, our Mortgage Preapproval Program provides an optional rate lock of
up to 120 days, giving consumers more flexibility in securing their new home,
and our Affordable Housing Program features reduced pricing, no points and no
closing costs. During 1998 we also introduced a successful "No PMI" program for
a limited period. Moreover, our participation in the Malden Redevelopment
Authority's first- and second-time home buying program illustrates our strong
commitment to affordable housing. We committed $1.7 million to this program
during 1998.
Our Commercial Lending Division specializes in serving small to mid-size
businesses with annual sales of up to $10 million with commercial & industrial,
asset-based and commercial real estate loans. Our knowledge of the local area
and our responsiveness to business owners give us an advantage. As an approved
SBA lender, and by offering a range of commercial services, we are
well-positioned to meet the lending needs of this market.
With seasoned commercial lenders, our capabilities range from providing term
loans for equipment purchases to financing multimillion-dollar developments.
Beacon Woods, a $3.2 million dollar land acquisition and construction loan, will
bring a community of 26 luxury townhomes to Burlington. In North Reading, we
have provided financing for Fairway Acres, a 10-lot subdivision. As part of the
lending relationship, we provide support to businesses in managing their growth
or helping them operate more efficiently. Several of the companies that rely
upon Medford Bank include Joyce Chen, a cookware company in Billerica; The
Universal Group, Inc., a wholesale frozen fish distributor based in Burlington;
and Lifestyle Transportation, an Everett-based limousine company.
In 1998, we experienced modest growth in the commercial and industrial portfolio
of $2.4 million, mostly attributable to increases in asset-based lending
activities. With challenges in managing the commercial real estate portfolio in
a fiercely competitive lending market and low rate environment, we were very
selective in developing new business. Our strategy is to build this portfolio
profitably without sacrificing credit or rate standards. We will continue to
actively look for opportunities to develop new business.
6
<PAGE>
Directors
Arthur H. Meehan*
Chairman of the Board,
President and Chief Executive
Officer Medford Bank
Edward D. Brickley
Manager of Corporate International
Accounting at Polaroid Corporation
Cambridge, MA (Retired)
David L. Burke
President and Treasurer, Boston
Steel & Manufacturing Co.
Malden, MA
Paul J. Crowley*
President, CSC Consulting Group
Cambridge, MA (Retired)
Mary Lou Doherty
Assistant Principal,
Medford School System (Retired)
Edward J. Gaffey*
President, Country Way Associates
Belmont, MA
Andrew D. Guthrie, Jr., M.D.
Physician, President of
Mistick Pediatrics Associates (Retired)
Robert A. Havern, III
Attorney, Arlington, MA
Member of State Legislature
of Commonwealth of Massachusetts
Eugene R. Murray*
Underwriting Manager of the
Boston Office of Cigna
Special Risk Facility (Retired)
Francis D. Pizzella*
Attorney and President of The
Savings Bank Life Insurance
Company of Massachusetts,
President of The Savings Bank
Employees Retirement Association (Retired)
Officers of Medford Bank
Arthur H. Meehan**
Chairman, President and
Chief Executive Officer
Vincent Gargano
Senior Vice President,
Strategic Planning
and Risk Management
Paula M. McNabb
Assistant Vice President,
CRA/Compliance Officer
Administration
William F. Rivers
Senior Vice President
David L. Korp
Senior Vice President,
Operations Officer
Joan P. Cronholm
Vice President,
Loan Operations Officer
Jane M. Griffin
Vice President,
Director of Human Resources
Lorraine Lucia
EFT Services Officer
Charles E. Samour
Security Officer
Joanne Teixeira
Deposit Operations Officer
Alan Collopy
Systems Officer
Finance
Phillip W. Wong**
Executive Vice President,
Chief Financial Officer
Jane E. Cybulski
Vice President,
Investment/ALCO Officer
John Searles
Vice President,
Controller
Mary E. Auterio
Assistant Vice President,
Assistant Controller
Martin J. Heneghan
Assistant Vice President
Senior Audit Officer
Christine Panno-West
Finance Officer
Lending
Eric B. Loth
Senior Vice President
Anthony R. Visco
Senior Vice President,
Residential Lending
Donald L. Cullen
Vice President,
Collections Officer
Mary Ann Devlin
Vice President,
Commercial Real Estate
Kim S. Foster
Vice President,
Commercial Loan Officer
Richard P. Lane
Vice President,
Commercial Loan Officer
Michael D. MacDonald
Vice President,
Commercial Loan Officer
Anne M. Barry
Assistant Vice President,
Mortgage Representative
Joanne M. Franco
Assistant Vice President,
Senior Credit Officer
Harold L. Goldsmith
Assistant Vice President,
Mortgage Representative
Deborah Sousa
Assistant Vice President,
Mortgage and Loan
Origination Manager
Charles M. Byron
Mortgage Loan Officer
Retail
George A. Bargamian
Senior Vice President
Kenneth E. Peterson
Vice President,
Branch Administrator
Elizabeth J. Stodolski
Vice President,
Marketing Director
Theresa Barile
Assistant Vice President,
Pension Officer
Kathleen M. Beasley
Assistant Vice President,
Regional Manager
Anna Beaudoin
Assistant Vice President,
Retail Systems Administrator
Cheryl A. Cannon
Assistant Vice President,
Regional Manager
Linda A. Iacono
Assistant Vice President,
Regional Manager
Rosanna Natola
Assistant Vice President,
Retail Training/Support
Teresa Cunha
Branch Officer
Judith A. Gilligan
Branch Officer
Lea Hamel
Branch Officer
Kathleen Pasquale
Branch Officer
Christine Santapaola
Branch Officer
Stephanie M. Tiernan
Branch Officer
Dana Mann
Municipal Officer
* Member of Executive Committee
** Officer of Medford Bancorp, Inc.
[LOGO]
Medford Bancorp, Inc.
<PAGE>
[LOGO]
Medford Bancorp, Inc.
People you know. Experience you trust.
781.395.7700
Shareholder Information
The Company's common stock trades on the Nasdaq Stock Market under the symbol
MDBK. The stock is listed under various abbreviations in the Wall Street Journal
and other newspapers. There were 1,158 shareholders of record as of December 31,
1998.
Quarterly Stock Performance
The following tabulation shows the range of price quotations per share as
reported by Nasdaq for the periods indicated: (Adjusted for stock split).
1998 High Low
- --------------------------------------------------------------------------------
First Quarter $22.00 $17.75
Second Quarter $22.13 $20.25
Third Quarter $21.25 $16.13
Fourth Quarter $18.75 $13.50
Dividend Reinvestment And Stock Purchase Plan
Stockholders may obtain a detailed brochure of the plan by writing to the
Company's Shareholder Relations Department.
Transfer Agent
Contact our stock transfer agent directly for assistance regarding: change of
address; transfer of stock certificates; replacement of lost, stolen, or
destroyed certificates or dividend checks; elimination of duplicate mailing.
Boston EquiServe
P.O. Box 8200
Boston, MA 02266-8200
800.426.5523
Legal Counsel
Goodwin, Procter & Hoar
Exchange Place
Boston, MA 02109
617.570.1000
Independent Certified
Public Accountant
Wolf & Company, P.C.
One International Place
Boston, MA 02110
617.439.9700
CONSENT OF INDEPENDENT AUDITORS
We consent to the incorporation by reference in Registration Statement
Number 333-41161 (dated November 26, 1997, on Form S-8), Registration Statement
Number 333-43271 (dated December 24, 1997, on Form S-8), Registration Statement
Number 333-43273 (dated December 24, 1997, on Form S-8), and Registration
Statement Number 333-62555 (dated August 31, 1998, on Form S-8), of our report
dated January 22, 1999, on the consolidated financial statements of Medford
Bancorp, Inc. and subsidiaries, appearing in the Annual Report on Form 10-K of
Medford Bancorp, Inc. for the year ended December 31, 1998.
/s/ Wolf & Company, P.C.
Boston, Massachusetts
March 22, 1999
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